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03 February 2003 The plans announced last week for reform of the structure of the United States' savings sector would create just three types of savings accounts to replace the existing jumble of schemes. |
The Lifetime Savings Account, with a maximum $7,500 contribution in 2003 would be open to anyone can contribute annually, regardless of age or income. There's no tax deduction for contributions, but earnings and distributions from the account would be tax free. Funds can be used for any purpose and taken out at any time without a tax penalty.
The Retirement Savings Account, also with a maximum $7,500 contribution in 2003, also has no income limits, but contributions can't be greater than a person's wages. There's no tax deduction for contributions, but earnings and payouts are tax-free when withdrawn after age 58, or after a disability or death.
The Employer Retirement Savings Account would allow contributions up to $12,000 in 2003 with a scheduled increase to $15,000 in 2006. Savers 50 and older may contribute another $2,000 this year. It would be basically similar to existing 401(k) plans, but simpler. It would replace 401(k), 403(b) and governmental 457 plans, as well as SARSEPs and "Simple" IRAs.
Announcing the plans, the President said: “Americans can help secure their own future by saving. Government must support policies that promote and protect saving. And saving is the path to independence for Americans in all phases of life, and we must encourage more Americans to take that path.”
“These bold new accounts will give more hardworking Americans the chance to save so they can enrich their lives and strengthen their retirement security,” stated Treasury Assistant Secretary for Tax Policy Pam Olson. “They make saving simple for everyone and for every purpose. No longer will individuals have to worry about the confusing alphabet soup of six different savings accounts. No longer will people have to worry about the endless maze of confusing rules. The two simple accounts will have one powerful goal -- making saving for everyday life and retirement security easier and more attractive.”
Said the Treasury:
'Lifetime Savings Accounts (LSAs) can be used for any type of saving. LSAs will help millions of Americans save in one tax favored account for any purpose, including their children’s education, a new home, healthcare needs, or to start their own business. The new LSA will allow an individual, regardless of age or income, to contribute $7,500 a year and make penalty free withdrawals at any time -- with no holding period. Like current law Roth IRAs, contributions will not be deductible but earnings will accumulate tax-free, and distributions will be tax free as well. Unlike current education accounts and MSAs, with LSAs, taxpayers will not need to carefully anticipate future qualified expenses and allocate savings among tax-preferred accounts. Taxpayers will not be required to document qualified expenses, financial institutions will not need to explain complicated rules to participants, and the government will not need to verify the qualifying expenses.
'Prior to January 1, 2004, individuals may convert balances in an Archer Medical Savings Account (MSA), Coverdell Education Savings Account, and Qualified State Tuition Plan to LSAs. Balances in these accounts may not be converted to LSAs after 2003.
'The $7,500 contribution limit will be indexed for inflation in future years.
'LSA's are good for average Americans because:
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They can simply save more tax free.
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More low and moderate-income taxpayers will participate. Many do not participate now because they are more likely to face a penalty if they need the funds. Knowing they can access the money at anytime for any purpose will encourage them to set money aside and allow them to receive tax-free earnings from their first dollar of savings..
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It takes away the hassle factor. The combination of universal eligibility and unrestricted tax-free withdrawals greatly simplifies the whole process, making it more likely that average taxpayers will participate, especially inexperienced savers. Many low- and moderate-income taxpayers will conveniently be able to put all their financial assets in one place; this will greatly simplify their taxes because they will no longer receive taxable investment earnings.
'Retirement Savings Accounts (RSAs) can be used only for retirement saving. The new RSA will improve and simplify savings opportunities for all Americans by consolidating traditional IRAs, nondeductible IRAs and Roth IRAs, each of which has a confusing and different set of rules regarding eligibility and tax treatment, into one streamlined type of account with rules similar to current law Roth IRAs. Up to $7,500 (in addition to amounts contributed to an LSA) could be contributed to an RSA. Like current law Roth IRAs, contributions will not be deductible but earnings will accumulate tax free and distributions after age 58 (or death or disability) will be tax free.
'Existing Roth IRAs will be unaffected (except that they will be renamed RSAs). Existing traditional and nondeductible IRAs may be converted into RSAs; those not converted to RSAs could not accept any new contributions (other than rollover contributions); no one would be required to convert.
'The $7,500 contribution limit will be indexed for inflation in future years.
'Complex eligibility restrictions for IRAs under current law confuse taxpayers and cause some to avoid contributing to IRAs, even if they are eligible to contribute. IRA income limits were imposed in 1986 greatly limiting eligibility. Studies have shown that participation after 1986 fell among lower-income taxpayers, even among those still eligible to make deductible contributions.
'RSAs are good for average Americans because:
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More Americans will save for retirement. Repeal of the income limits will eliminate the confusion and complexity associated with determining eligibility and will encourage participation.
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It makes saving for retirement simple and easy. Individuals will not be required to make minimum distributions from the accounts during their lifetime, simplifying financial planning in retirement.
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More will be set aside for retirement. Current IRAs allow for withdrawals for many non-retirement purposes. Each withdrawal from an IRA potentially reduces retirement funds. Having a separate retirement account will help individuals plan for both non-retirement and retirement needs.
Commenting on Employer Retirement Savings Accounts, Assistant Secretary Olson stated: “The overwhelming complexity of current rules imposes substantial burdens on employers and workers. Because employer sponsorship of a retirement plan is voluntary, this complexity discourages many employers from offering any plan at all. This is especially true of small employers who together employ about 4 out of every 10 American workers. It's one important reason why only 50% of working Americans have any pension plan at all. I'm confident that simpler rules will encourage employers to create new plans for their employees because creating a qualified plan will be much easier.”
The Treasury commented:
'There are currently multiple tax-preferred, employer-based retirement savings accounts with similar goals but different rules regulating eligibility, contribution limits, tax treatment, and withdrawal restrictions. The Budget proposal will consolidate 401(k), thrift, 403(b), and governmental 457 plans as well as SARSEPs and SIMPLE IRAs into a streamlined and simpler account, Employer Retirement Savings Accounts (ERSAs), which can be sponsored by any employer.
'ERSAs will follow the existing rules for 401(k) plans, but these rules will be greatly simplified. For example, both the definition of compensation and the minimum coverage requirement will be simplified and the top heavy rules will be repealed. Nondiscrimination requirements for ERSA contributions will be satisfied by a single test and many firms may choose to adopt a new designed-based safe harbor to avoid this test altogether. The proposal simplifies qualification requirements while maintaining their intent of providing broad-based coverage of employees. By reducing unnecessary complexity, the proposal significantly reduces employer compliance costs.
'Complexity and the associated compliance costs are often cited as a reason the coverage rate under an employer retirement plan has not grown above about 50 percent overall, and has remained under 25 percent among employees of small firms. Firms that are currently not offering retirement plans because of compliance costs will be more likely to offer such plans under the proposal, increasing coverage and participation. ERSAs are good for workers because:
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Coverage and participation will increase because firms that are not currently offering retirement plans because of the complexity and compliance costs will be more likely to offer such plans under the proposal.
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More small businesses will be able to cover more workers. The reduction in red tape will remove a barrier that discourages small business owners from offering this benefit to their employees. Small businesses employ about two-fifths of American workers, but the pension coverage rate has consistently remained under 25 percent among employees of small firms.
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Employees will benefit because firms currently offering employer plans will have reduced compliance costs.
Administration officials say they hope the simpler laws will encourage Americans to save more, and hope that more small businesses will offer retirement plans. Democrats say that the proposals would merely provide new tax breaks for well-to-do people who don't need the incentives. The proposals would require congressional approval.
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