More On Tax Planningfrom The Advisor's Professional Library
- Health Insurance: Health and Medical Savings Accounts A Health Savings Account is a trust created exclusively for the purpose of paying qualified medical expenses of an account beneficiary. Although they are popular, they are not without their pitfalls and the regulations can be complicated. Learn more about how to avoid federal taxation on the accumulation and distributions of HSA.
- Annuities: Variable Annuities Annuities are hot. The tax rules vary with the circumstances. Advisors must be aware of these intricacies when discussing annuities with clients.
It is not just the rich who might find themselves subject to substantially higher taxes in 2013—several initiatives in President Obama’s 2013 budget proposal would eliminate many important tax benefits of retirement savings plans for upper middle class taxpayers. If passed, the value of itemized deductions and tax preferences may be reduced substantially, so your clients could find that their contributions are essentially taxed twice. This budget proposal is one to pay attention to—if it is passed, many of your clients’ retirement strategies will need to be re-evaluated.
A Changing Retirement Tax Landscape
Importantly, the deductions allowed to reduce tax liability would be capped at 28% for “high income” taxpayers. The definition of “high income” taxpayers includes families (and small businesses) who earn more than $250,000 each year and single taxpayers earning over $200,000 annually—capturing much of the upper middle class.
Limiting the reduction in tax liability for high income taxpayers to 28% means that many contributed funds will be taxed when contributed to the account and upon withdrawal. The 28% cap would apply to all itemized deductions, foreign excluded income, tax-exempt interest, employer-sponsored health insurance, and retirement contributions.
The proposal includes several other initiatives, including a measure that would require employers who do not offer retirement savings plans to enroll their employees in automatic IRAs funded by direct deposits from employee paychecks. Employers of fewer than ten employees would be exempt, and employees would be allowed to opt out.
How Will This Affect My Clients?
Today, taxation of most retirement savings accounts is deferred until some point in the future when the funds are withdrawn. Capping the deduction at 28% essentially imposes a penalty on retirement savings, which will certainly make your clients question whether using a retirement savings account is worthwhile.
Your small-business clients who earn more than $250,000 per year may want to think twice about even offering retirement savings plans if these proposals are passed. The 28% cap would eliminate many of the tax benefits to a small business owner who makes matching contributions to employee retirement accounts. Because of this, many taxpayers may no longer have the option of investing in an employer-sponsored retirement savings plan with matching contributions.
While nothing is certain to change, the 2013 budget proposal is one to watch. If passed in its current form, your upper-middle-class and small-business clients are going to face significant changes in the way their contributions to retirement savings accounts are taxed.
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