An Obama Administration proposal to place a $3 million cap on individual retirement accounts could have a major impact on younger savers and small-business owners, industry experts said Wednesday.
The impact of the proposal, unveiled as part of the White House spending proposal for fiscal 2014, wouldn't be felt by most Americans any time soon, but would most affect workers early in their careers and who are just now beginning to put money away.
"The desire for revenue is understandable considering fixing the national debt is a leading priority," said Neil Smith, executive vice president of strategic business and support services at Ascensus, a retirement plan solutions provider. "(But) if tax advantages are taken away or capped, we will surely see a decrease in retirement savings at a time when we need to encourage more retirement savings, not less."
"Small-business owners may see less upside in offering a retirement plan if the plan is less helpful toward an employee's long-term retirement needs," Smith added.
Robert Smith, president of the National Association of Insurance and Financial Advisors, added another concern:
“The current tax code already has contribution limits to retirement savings programs, including IRAs, and, therefore, limits on account balances is detrimental to conscientious taxpayers who have made current sacrifices for future security,” he said in a statement.
According to analysis by the Employee Benefits Research Institute, the cap would impact just 0.03 percent of the approximately 20.6 million accounts in the EBRI IRA database at year-end 2011.
Of the people with IRA balances above $3 million, 37 percent were over the age of 70 and another 20 percent were between the ages of 65 and 69. Some employment-based retirement accounts, such as 401(k) plans, also would be affected.
The EBRI estimated that for individuals over the age of 60 who had at least one IRA or 401(k) in 2010 and at least one IRA or 401(k) in 2011, about 0.107 percent of them had balances over $3 million.
Adjusting these totals for those between the ages of 26 and 35, EBRI found that 1.2 percent of this demographic would be affected by the adjusted $3 million cap by the time they reach age 65.
“It’s not enough to examine just those balances that are at a specific point in time,” according to the EBRI analysis. “The retirement plan account savings cap in the White House budget proposal is reportedly tied, not to a hard dollar limit, but rather one that would finance, in 2013, an annuity of $205,000 per year in retirement, the current IRC 415(b) annual benefit limit for defined benefit pension plans.
"The corresponding account balance threshold would fluctuate over time, based on discount rates — and that means that the number of accounts that could exceed the threshold in the future could be significant.”
As an example, based on a time series of annuity purchase prices for males age 65 going back to late 2006, the actuarial equivalent of the $205,000 threshold could be as low as $2.2 million, the study found. At that level, nearly 3 percent of 401(k) accounts could be impacted.
It was noted in the report that a higher interest-rate environment would result in an even lower cap threshold.
Time and the accumulation of savings in retirement accounts increases the probability that younger workers will reach the inflation-adjusted limits by age 65, with 2.2 percent of those currently ages 26 to 35 affected by the $3 million cap, compared with just 0.1 percent of those now between the ages of 56 and 65.
At the $2.2 million level, 6 percent of younger retirement savers would be impacted by age 65, compared with 0.3 percent of those between the ages of 56 and 65.
If age adjustments are factored into the asset allocation, 4.2 percent of the younger age group would be affected by a $2.2 million cap, according to the EBRI. Those closer to retirement would be less likely to exceed the threshold by the time they reach age 65.
EBRI pointed out that its numbers don’t take into account the potential response of individual savers and their employers to such a change in tax policy.
Brian Graff, executive director and CEO of the American Society of Pension Professionals & Actuaries, said in a statement that he is concerned about the impacts of the $3 million cap on small business owners who have saved that much in their 401(k) plans and “will have to pull out and pay tax on any balance over that amount."
"Without any further incentive to keep the plan, many small-business owners will now either shut down the plan or reduce contributions for workers. This means that small-business employees will now lose out not only on the opportunity to save at work, but also on contributions the owner would have made on the employee’s behalf to pass nondiscrimination rules.”
He added that the proposed savings cap in the president’s budget isn't closing a loophole and isn’t correcting a perceived abuse of rules.
“Small-business owners have been playing by the rules all along. They saved each year within federally-dictated contribution limits and they provided matching and other contributions to their employees to comply with federally-mandated nondiscrimination rules. Now these small-business owners are being punished for doing right by their workers and saving and investing successfully,” he said.
“We think it is grossly unfair that a small-business owner will be limited to retirement benefits that are nowhere near as valuable as executives’ at large corporations.
"Small business can’t use the nonqualified deferred compensation arrangements that provide millions, even billions of dollars in retirement benefits to big corporate executives. Every time retirement plan limits are cut, the corporate CEOs get more nonqualified retirement benefits. It’s the small-business owners and their employees who lose out and it just isn’t fair,” he said.
Of course the White House proposal is just that, a proposal.
"As with any proposal, the road to getting it into legislation is dependent upon a lot of factors and, given it didn't have a lot of air time prior to this proposal, it is hard to gauge where it will end up," Ascensus' Smith said.