Last week’s Senate Finance Committee hearing on reforming the individual tax code was heartening for retirement industry stakeholders.

One proposal reportedly being considered under tax reform is the so-called Rothification of the $7.3 trillion defined contribution market.

Eliminating or capping the amount of retirement savings contributions that can be made on a pre-tax basis would allow lawmakers to book more tax receipts within the 10-year budget window.

Republicans and Democrats on the committee, as well as policy experts brought to testify, raised concerns that would come at the expense of tax revenues outside the 10-year budget window.

Sen. Orrin Hatch, R-UT, chair of the finance committee, pledged a bipartisan effort to simplify and reform the code, echoing promises from the White House.

Democrats on the committee vowed cooperation, but also insisted reform should not add to deficits.

On the question of using Rothification to meet that goal, the committee expressed broad and bipartisan skepticism.

Sen. Sherrod Brown, D-OH, a progressive and long-time critic of Wall Street interests, was vehement in his opposition to Rothification, saying it would be akin to “slapping taxes on retirement savings of working middle-class families.”

Sen. Rob Portman, R-OH, who has proposed several pieces of bipartisan retirement legislation over the past five years, raised the question of Rothification’s potential impact on savings rates.

The policy experts before the committee cautioned that more research is needed on how mandated Roth contributions would impact savings habits.

According to recent data from Cerulli Associates, 20 percent of plan participants said the tax incentives to deferring savings into traditional 401(k) plans, which are made on a pre-tax basis, was the primary motivator to saving. And nearly half said the tax break motivated deferral increases.

Retirement community remains vigilant

Melissa Kahn, managing director of retirement policy for the defined contribution team at State Street Global Advisors, says tax reform stands a greater chance of passing than not.

“They will have to get something done by the first quarter of 2018,” Kahn told BenefitsPRO.

SSgA is a member of the Spark Institute, which as a member of the Save Our Savings Coalition, a lobby comprised of asset managers, employer and consumer advocates, and defined contribution plan advisors that is pushing to block Rothification as a way to pay for tax reform.

While last week’s hearing was clearly positive for the stakeholders pushing back against Rothification, Kahn says there is cause to remain vigilant.

“It was a good hearing in the sense that there was wide support for the tax incentives of savings,” said Kahn.

“Lawmakers are aware of the issue and that is a good sign. But things have a way of happening very quickly if deals need to be made behind closed doors,” said Kahn.

Moreover, less is known about the intentions of lawmakers in the House of Representatives. “We haven’t heard much in the House. I’m concerned they will still pursue this. Everything is on the table in the House. The retirement community needs to remain vigilant,” said Kahn.

Accusations of profit motive are ‘cynical’

State Street manages $421 billion in global DC assets, and is a top 10 manager in the U.S. market.

In a recent interview, Daniel Hemel, an assistant professor of law at the University of Chicago, said profit motive best explains the financial services industry’s push back against Rothification—not concern over savings rates.

“Their incentives seem quite clear,” Hemel told BenefitsPRO. “Asset managers have a strong interest in stopping Rothification. They want assets under management to be higher, and they are higher under the traditional model.”

Hemel recently published a blog exploring the management profits on a $100 investment over 20 years.

In a traditional 401(k) plan at an annual management fee of 1 percent, fund managers would earn $35 over two decades. But if the same $100 is first taxed and then invested in a Roth platform, management fees would be $21 over two decades.

“Asset managers are making more money under the traditional model,” Hemel said. “That money has to come from somewhere—it’s coming from the government.”

Kahn says the idea that asset managers are acting out of profit motive is “cynical.”

“We don’t know what Rothification would do to our assets under management,” she said. Kahn cites data that shows younger participants would keep savings rates equal under a Roth system, and other older, wealthier participants may actually increase savings rates to actualize the benefits of Roth withdrawals, were are tax-free in retirement.

“Our motto is ‘making retirement work’. We care about making things right for participants. Our view is not based on what is in our best interest. The retirement system needs to work, or everyone will be a loser,” said Kahn.

Her concern that Rothification would hit lower income savers and small businesses with the hardest aligns with much of industry, to say nothing of Senate Finance Committee members.

“We need more data on how Roth would impact those segments,” she said.

Whether that evidence comes in time to inform lawmakers remains a wild card. The Employee Benefits Research Institute is reportedly putting the last touches on new data exploring Roth’s impact on lower earners’ savings habits.

Either way, Kahn underscores the reality that the Trump administration is insistent that Congress pass some type of tax reform, and quickly.

“Congress is dealing with a President unlike any other,” said Kahn. “He’s not ideological at all. He wants to make a deal. I think Democrats and Republicans are just now waking up to that.”

Instant Insights /

Retirement industry must stay vigilant on Rothification

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