Compliance September 12, 2016

Ranking Senate Finance Democrat Eyes ‘Mega Roth IRA’ Taxes

“Tax incentives for retirement savings are designed to help people build a nest egg,” says one high-ranking member of the Senate Finance Committee, “not a golden egg.”
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Senate Finance Committee Ranking Member Ron Wyden, D-Oregon, released a “discussion draft” of the Retirement Improvements and Savings Enhancements Act (RISE Act)—aimed at boosting savings while combatting what he describes as critical imbalances in retirement-related tax incentives.

According to Wyden, the RISE Act as proposed would help more working families and recent college graduates save for retirement, while “cracking down on unfair strategies used by the privileged to rake in subsidies and dodge tax bills with so-called mega Roth IRAs [individual retirement accounts].”

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Explaining his motivation for introducing the RISE Act, Wyden says the existing tax incentives for retirement savings, which he suggests will add up to more than $1 trillion over the next five years, represents the second-largest subsidy in the U.S. tax code. Yet, the majority of Americans still clearly struggle to save amounts at all sufficient to meet retirement spending projects, he observes. Even on health care spending in retirement alone, expenses are anticipated to far outstrip what most Americans have save or expect to be able to save.

“According to the National Retirement Risk Index, the median IRA account contained only slightly more than $25,000 as of 2013,” Wyden says. “An estimated 60% of all households had nothing saved in an IRA or 401(k). Meanwhile, a recent GAO report found that between 2,000 and 5,000 taxpayers had balances in IRA accounts, including Roth IRAs, of more than $5 million in 2011. The estimated value of those taxpayer-subsidized Roth IRAs totaled between $8 billion and $13 billion.”

This is the “Mega Roth IRA” problem, Wyden says, highlight that the creation of these accounts is often the result of an account holder “seeding an account with specially-acquired assets that appear to be worth very little before exploding in value.” The RISE Act draft released would, according to Wyden, “prohibit further contributions to a Roth IRA if its total value exceeds $5 million.”

NEXT: Why RISE matters today 

It should be stated that both Democrats and Republicans in Congress have struggled to deeply address defined contribution retirement planning issues—with the Pension Protection Act of 2006 (PPA) being lawmakers’ latest and greatest contribution to the space, apart from minor tweaks and adjustments occasionally folded into omnibus, must-pass legislation. But even so, Wyden appears optimistic about the RISA Act because, as he puts it, “still far too many Americans struggle to set money aside after they cover the basics.”

“Tax incentives for savings ought to be available to more working families and more generous to the middle class,” he argues. “It’s time to face the fact that our tax code needs a dose of fairness when it comes to retirement savings, and that starts with cracking down on massive Roth IRA accounts built on assets from sweetheart, inside deals. Tax incentives for retirement savings are designed to help people build a nest egg, not a golden egg.”

In addition to cracking down on “mega Roth IRAs,” the draft proposal would:

  • Allow employers to make “matching” contributions to a 401(k) retirement plan while their employees make student loan repayments. Under this proposal, recent graduates who cannot afford to save money above their student loan repayments would no longer have to forego the employer match.
  • Make the “Saver’s Credit” refundable so that it is available to Americans with no income tax liability, simplify its structure, require that the credit amount be contributed directly to a tax-favored retirement plan and increase its income cap. 
  • Eliminate Roth conversions for both IRAs and employer-sponsored plans to prevent tax gaming and close the “back door” around income limits.
  • Eliminate “stretch IRAs” to prevent taxpayer-subsidized retirement accounts from being used as estate planning tax loopholes.
  • Gradually increase the age at which retirement plan participants are required to begin taking distributions from their accounts. The “required minimum distribution” age of 70.5 years has remained unchanged since the early 1960s. In addition, the draft provides that participants who reach the required age with balances in their retirement plans of less than $150,000 will not be required to begin taking distributions.

The RISE Act discussion draft is a detailed legislative proposal, but not final. It is being circulated to stakeholders, members of Congress, federal officials and others for review and comment.

The responses will be reviewed and, if appropriate, incorporated into legislation, Wyden says, asking industry practitioners to submit comments on the proposal to Retirement_Savings@finance.senate.gov.

Compliance September 9, 2016

IRS Issues Final Rule About Partial Annuities in DB Plans

The rule is intended to facilitate the payment of benefits partly in the form of an annuity and partly as a single sum.
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The Internal Revenue Service (IRS) has issued a final rule modifying minimum present value requirements for partial annuity distribution options under defined benefit (DB) plans.

In its regulation, the IRS says that in the case of a DB plan that offers a single-sum distribution or other form of accelerated distribution as an optional form of benefit in addition to the required qualified joint and survivor annuity (QJSA), many participants have been reluctant to elect lifetime payments to insure against unexpected longevity, choosing instead an accelerated distribution form in order to maximize their liquidity. However, participants who elect a single-sum or other accelerated form of distribution may face greater challenges in protecting against the risk of outliving their retirement savings.

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The Treasury Department and the IRS believe many participants are better served by having the opportunity to elect to receive a portion of their retirement benefits in annuity form (which provides financial protection against unexpected longevity) while receiving accelerated payments for the remainder of their benefits to provide increased liquidity during retirement.

In order to facilitate the payment of benefits partly in the form of an annuity and partly as a single sum (or other accelerated form), the final rule amends the regulations under section 417(e) to permit plans to simplify the treatment of certain optional forms of benefit that are paid to a participant partly in the form of an annuity that is excepted from the minimum present value requirements of section 417(e)(3) pursuant to sections 1.417(e)–1(d)(6) and partly in a more accelerated form. The final regulation provides rules under which the participant’s accrued benefit can be bifurcated so that the minimum present value requirements of section 417(e)(3) and sections 1.417(e)–1(d) apply to only the portion of the participant’s accrued benefit that is paid in an accelerated form.

In addition to rules provided in proposed regulations, an alternative rule is provided in the final regulations under which a plan that distributes a specified single-sum amount to a participant satisfies the requirements of sections 1.417(e)-1(d) with respect to that payment, provided the remaining portion of the participant’s accrued benefit satisfies a minimum requirement. Under this alternative rule, the portion of the participant’s accrued benefit, expressed in the normal form of benefit under the plan and commencing at normal retirement age (or at the current date, if later), that is not settled by the single-sum payment must be no less than the excess of: The participant’s total accrued benefit expressed in that form; over the annuity payable in that form that is actuarially equivalent to the single-sum payment, determined using the applicable interest rate and the applicable mortality table. Thus, the portion of the participant’s accrued benefit that is settled by the payment of a specified single-sum amount is implicitly determined as the actuarial equivalent of that single-sum amount.

The final rule also includes a number of examples to illustrate the bifurcation rules and rules of operation.

The rule is effective September 9, 2016, and applies to distributions with annuity starting dates in plan years beginning on or after January 1, 2017.

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