President Obama’s new budget proposal aims to trim Americans’ nest eggs by setting a cap on lifetime contributions of 401(k)s at an average of $2.7 million and putting the policing of the limit on their employers.
The idea is supposed to simplify the tax code, but would actually make life much more complicated, says one expert.
“This required record-keeping will be very difficult for employers,” according to Jack VanDerhei, research director of the Washington-based Employee Benefit Research Institute (EBRI).
This proposal, if it becomes law, would be the first time there has been a limit on the balances one could build up in a defined contribution plan, such as a 401(k) or an IRA.
“The proposal to place a dollar cap on individual retirement saving accounts would add complexity and confusion to our nation’s system for retirement savings,” said Peter Brady, senior economist at ICI.
“This unworkable proposal to cap individuals’ savings in 401(k)s, other defined contribution plans and Individual Retirement Accounts (IRAs) would discourage employers from creating retirement plans and workers from contributing,” Brady added.
“The administration,” said the president’s budget message, “proposes to limit the deduction or exclusion for contributions to defined-contribution plans, defined-benefit [pension] plans, or IRA for an individual who has total balances or accrued benefits under those plans that are sufficient to provide an annuity equal to the maximum allowable defined-benefit plan benefit.”
The maximum benefit, the administration said, “is currently an annual benefit of $205,000 payable in the form of a joint and survivor benefit commencing at age 62, is indexed for inflation, and the maximum accumulation that would apply for an individual at age 62 is approximately $3.4 million.”
Initially, EBRI estimated that the cap would affect only 180,000 of the 60 million retirement-benefit participants.
But in re-examining the details of the administration plan, VanDerhei now estimates close to 1 million young people in their 20s and 30s who are aggressively saving through their defined-contribution plans, as well as older people who have accumulated a few million dollars collectively in all their retirement accounts, could run into the cap problem.
The government computes that people who have accumulated, or are on the way to accumulating, large balances in their retirement accounts would be able to generate millions of dollars by buying a big annuity. This is an investment contract that can generate millions of dollars over its lifetime.
The changes could also affect a 40-year-old whose retirement accounts would allow him or her to purchase an annuity for $426,000. “If someone has that at age 40, he would also not be allowed to put in more to the retirement accounts,” VanDerhei said.
But the most controversial part of the changes might be burdens imposed on the employer who offers these retirement plans.
“All of those numbers have to be collected. They have to be translated. And then they have to be compared to a yearly cap,” VanDerhei said, adding that some employers, facing new rules to tack on their retirement plans, may decide to scuttle them.
The Securities Industry and Financial Markets Association trade group said it was “concerned” about the Obama retirement saving limits.
“Savings have a positive effect on the capital markets, while helping maintain and improve the quality of life for future generations of retirees,” said a spokesman. “We need to be emphasizing the importance of saving and saving early, not changing the tax rules midstream.”