Brookings Suggests Tax Reforms for Retirement Plans

A set of reforms should make the saving incentives offered to retirement plan sponsors and participants more effective at a lower cost, a report said.

According to the Hamilton Project of the Brookings Institution, the organizing principle of the reforms is that tax savings incentives are reduced for higher-income households since such programs appear to be having little effect on the overall saving of this group, with some of the revenue from the reduction in subsidies put toward making saving easier and more attractive for low- and moderate-income households.  

The report suggests capping the rate at which deductions and exclusions related to retirement saving reduce a taxpayer’s income tax liability at 28%. In a statement, Brian H. Graff, Executive Director/CEO of The American Society of Pension Professionals & Actuaries (ASPPA), said because the tax incentive for retirement savings is a deferral, not a permanent exclusion, the proposal would more accurately be described as double taxation of contributions to retirement savings plans for anyone with a marginal tax rate of over 28%.   

“You won’t expand coverage by penalizing small business owners for offering a 401(k) plan,” Graff said. “Retirees already pay ordinary income tax on distributions from retirement savings plans. If this proposal went through, a small business owner in the 39.6% bracket would pay an 11.6% tax on contributions made to the 401(k) plan today, and pay tax again at the full rate when they retire.”  

He added, “The Hamilton Project paper acknowledges that individuals subject to this double taxation may decide to put their savings somewhere other than in the 401(k) plan. What it fails to acknowledge is when that double-taxed person is a small business owner and it no longer makes sense for the owner to have a 401(k) plan, that owner probably won’t offer a 401(k) plan to the employees, either.”


The Hamilton Project report suggests reforms that take steps to ensure more workers are covered by some type of retirement saving plan—and increase in the tax credit that small businesses can take for startup pension plan expenses, and an automatic individual retirement account (IRA) program.  

In addition, the report notes that many households with very low incomes do not benefit from the Saver’s Credit because they have no federal income tax liability against which to apply the credit. Making the credit fully refundable so taxpayers receive the value of the credit even if it results in a net refund from the government would greatly increase the payoff to making contributions to qualified retirement plans for these households, it contends.  

Finally, the report says lower-income households may be reluctant to lock away their savings in accounts that they cannot readily access for emergency purposes or other needs like college expenses and proposes firms offer their employees access to nonretirement savings accounts through the same system as the one they are using for their retirement savings accounts.  

The Hamilton Project report is here

ASPPA’s statement is here.