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Sunday, July 20, 2008

The Pressing Need to Rethink Our Existing Tax Rules for Retirement Savings

On 6/26/08, the House Ways & Means Committee held a hearing on Individual Retirement Accounts (IRA) due to concern over underutilization and reasons why many small businesses did not offer some type of IRA plan for workers. The GAO report on the topic was highlighted. Subsequent to this hearing, a few other committees held hearing on retirement savings and a report was released by Ernst & Young on people not having enough to live on in retirement.
There are some troubling data and realities about IRA participation and inadequate retirement savings. For example:

For 2004, 79% of all taxpayers were eligible to make an IRA contribution (about 145 million taxpayers). Just 14.7 million taxpayers made a contribution though (about 10%). Participation was highest for taxpayers with $200,000 or more of AGI and that group also made the largest average contribution. For eligible taxpayers with positive AGI, participation was greater among higher income taxpayers. [Bryant, Accumulation and Distribution of IRAs, IRS, 2004]

In 2001, 60% of taxpayers either had assets in or income from an IRA or employer-sponsored plan. Thus, 40% of taxpayers have no retirement accounts although they may have other assets for retirement. (Sailer & Holden, IRS, 2004)

I have more information in a short article - Rethinking IRAs.

On 7/10/08, the Joint Economic Committee held a hearing on the shift from defined benefit plans to defined contribution plans, the greater risk upon workers under DC plans, and the greater return DB plans produced. A representative of the venture capital industry noted the importance of DB plans to providing funds for investment.

On 7/16/08, the Senate Special Committee on Aging held a hearing on people not saving enough for retirement, the recent increase in hardship withdrawals from 401(k) plans and the possibility of "automatic IRAs" that allow for payroll contributions to IRAs. Click here for more information on this topic from Chairman Kohl.

The EY report (July 2008) - Retirement vulnerability of new retirees, found that "almost three out of five middle-class new retirees can expect to outlive their financial assets if they attempt to maintain their current pre-retirement standard of living. To avoid outliving their financial assets, middle-class retirees will have to reduce their standard of living, on average, by 24 percent." The report was prepared for Americans for Secure Retirement.

Living longer, inadequate participation in retirement savings, financial illiteracy, greater personal responsibility for managing retirement savings (DC versus DBs), frequent job changes, and retirement tax rules that are skewed to benefit higher income individuals all point towards a retirement savings crisis that will cause people to work longer, put pressure on social programs and children of retirees, and lower our standard of living.

The reality of greater personal responsibility for retirement will require greater financial education in schools, easier options for retirement savings (such as automatic payroll contributions) and modification of existing tax rules to bring greater equity to the system.

What do you think?

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