(Editor's note: Larry Zimpleman, president and CEO of Principal Financial Group, recently joined the chorus of industry voices who've tried to reiterate the long-term benefits of maintaining existing tax deferral incentives to support America's retirement plans. The following is a letter he penned to POLITICO following a recent article on the subject.)
Just about every tax break is being evaluated in the rush to avert the impending fiscal cliff. Congressional leaders are carefully weighing the pros and cons of any changes, as they should. But POLITICO’s examination of retirement plan tax advantages, “Retirement Savings Tax Breaks Face Scrutiny," exaggerates, and at one point misrepresents, the costs while ignoring a key differentiating benefit: 401(k) tax incentives pay back the government and our society.
While the article correctly describes the tax advantages for saving in a 401(k) — or other defined-contribution plans and IRAs — as tax deferrals, meaning the revenue eventually comes back to the government when the worker withdraws money, it also incorrectly refers to them as “tax-free” savings. Paying taxes later is not tax-free. That inaccurate label serves to perpetuate the myth that these tax advantages represent only a cost to the government.
Far from being a loss, the government eventually collects that tax revenue and then some. True, by the time workers withdraw money from the account, many could be in a lower tax bracket. However, they are paying taxes not only on the original savings but also on the accumulated, compounded earnings — earnings they wouldn’t have if workers hadn’t been incentivized to save in the first place. Our analysis of a typical middle-income worker shows that over the course of a 40-year career, for every $1 of taxes deferred, the federal government collects at least $4 in tax revenue when the contributions and earnings are withdrawn.
With $9.5 trillion currently saved in work-site retirement defined-contribution plans and IRAs, the government will be collecting significant tax revenue for many years to come. But there is more to the payback.
The overall societal benefits generated by these critically important retirement savings incentives more than offset government expenditures.
Tax advantages motivate Americans to build their own retirement security so they can depend less on government programs. Having been on the front lines of the nation’s retirement system for more than 40 years, I believe it is highly unlikely Americans would have saved anywhere near $9.5 trillion without the tax advantages of employer-based retirement plans. Only 4.6 percent of Americans who do not have access to a workplace retirement plan save on their own in an IRA, compared with more than 70 percent who participate in 401(k) plans.
Workers of all income levels benefit from current tax incentives. Among the 3 million workers who participate in plans serviced by my company, the Principal Financial Group, 43 percent of those who save the maximum tax deferred amount make less than $110,000. Two-thirds of them are age 50 or older, the very age group that has the least amount of time to build retirement security.
Study after study conducted in the United States — including our own 2011 Retirement Readiness Survey — shows that retirement plan tax deferrals encourage employers to voluntarily establish plans and employees to participate. But studies also show that removing or reducing tax deferrals would hurt savings, participation and cause employers to not offer plans.
According to the Employee Benefit Research Institute, 40 percent of American workers say that without the current tax incentives, they would stop contributing to work-site retirement plans. Think about what it would cost the government if 40 percent more retirees needed to depend primarily on government programs because they had not saved enough to live on.
There would be another cost to the economy in general. Those tax-deferred retirement plan dollars play a vital role in the development of U.S. and global capital markets. Representing about 30 percent of equity market investments, retirement assets are a strong, steady source of capital to help companies grow, add jobs and increase wages.
I understand that everything needs to be on the table to avoid the looming economic train wreck, and I have urged leaders to strike a balanced solution that involves both revenue and cost-cutting. We’ll all have to be willing to accept compromises because we cannot afford to do nothing. But the discussion regarding each and every proposal needs to be grounded on the facts. We can’t know the true benefits of changes if we don’t know the true costs.
President and CEO Principal Financial Group