401(k)razy idea

Congress needs to leave retirement savings alone in quest to pay for GOP tax reforms.

Congressional Republicans led by our own Rep. Kevin Brady from The Woodlands are about to unveil a tax plan that has had them turning over every cushion in every couch, scrounging for money to bankroll “reform” that mainly benefits corporations and rich people.

We don’t know exactly what’s in the legislation — the bill’s release was delayed yesterday — but one idea floated would seriously undermine the retirement savings plans for generations of Americans. In their zeal, GOP lawmakers reportedly have been considering dramatic reductions to the amount Americans can contribute tax-free to their 401(k) retirement plans. That’s a bad idea, especially for younger taxpayers.

Under current law, Americans can save retirement money in two basic types of accounts. Traditional 401(k) or IRA plans generally let people subtract their retirement contributions from their annual income, but they end up paying taxes on their compounded savings when they withdraw their money later in life. With a Roth 401(k) or a Roth IRA, there’s no immediate tax deduction but retirees can withdraw their money tax-free.

One of the ideas that’s been kicked around Capitol Hill would allow Americans to contribute only $2,400 a year tax free to their traditional 401(k) accounts. That’s a drastic cut from the current limits. Right now, employees under 50 can save up to $18,000 a year in their 401(k)s without paying taxes, and people over 50 can save up to $24,000. Another idea under discussion would require contributions above the limit for tax-deferred savings to go into a Rothstyle account, so people would pay taxes on their contributions now but they eventually would withdraw their savings tax free.

The upshot is pretty simple. Both of these plans would increase the government’s tax revenues in the short term. But they would reduce how much the government collects in the long run. It’s basically shifting tax revenue from the future to pay for the GOP’s plan today.

Either way, these plans would almost certainly reduce the amount of money Americans are saving for retirement. If you’re currently putting $10,000 a year in your 401(k) and you’re in the 25 percent tax bracket, your annual take home pay is reduced by $7,500; if the tax deferral goes away, you would have to pay the entire $10,000. So you would face a decision to maintain either your current savings rate or your current paycheck.

That’s a bum deal for all Americans trying to save retirement money, but it’s especially troublesome for younger people just starting to sock away savings. They would lose not only personally in the short run, but also collectively in the long run. One of the advantages of the traditional 401k system is that the government gives up revenue today, but it eventually collects its share of the compounded savings amassed in tax-deferred accounts. So younger taxpayers would lose their deductions in the short term, and their government would lose revenue in the long run.

The federal government needs to do more to encourage people to save for retirement, not yank away the incentives that are already on the books. We’ll see what the legislation proposes when GOP leaders unveil their bill, but they need to find their tax cut money somewhere besides our 401(k) plans. Congress needs to keep its hands out of the cookie jar in which Americans are saving money for their retirement.

The federal government needs to do more to encourage people to save for retirement, not yank away the incentives that are already on the books. We’ll see what the legislation proposes when GOP leaders unveil their bill, but they need to find their tax cut money somewhere besides our 401(k) plans.