The President’s Advisory Panel on Federal Tax Reform has come up with proposals that could do everything from creating new annuity purchasing vehicles to eliminating tax breaks that now promote the sale of universal life insurance, variable annuities and group disability insurance.[@@]

The panel held a hearing today in Washington and put hundreds of pages of poorly compressed, slow-to-load recommendations on its Web site.

The panel also has sent its report to the U.S. Treasury Department, which could use the recommendations in efforts to formulate policy.

Although the panel, led by Sen. Connie Mack, a former Republican senator from Florida, came up with 2 distinct sets of proposals, one of which would shift the country to an entirely new, “consumption-based” tax system, both proposals would replace individual retirement accounts and a long list of other retirement, education and health savings vehicles with Save at Work plans for work-based retirement savings, Save for Retirement Accounts for personal retirement savings, and Save for Family Accounts for medical and education expenses.

The panel wants to eliminate the much-hated alternative minimum tax. One major panel proposal for replacing the lost AMT revenue would put sharp limits on use of the home mortgage interest deduction. Many of the media questions at today’s hearing focused on questions about the deductibility of mortgage interest.

The proposals also could have a huge effect on the life insurance, annuity, health insurance and employee benefits industries.

The Save for Retirement Account would “replace existing IRAs, Roth IRAs, Nondeductible IRAs, deferred executive compensation plans, and tax-free ‘inside buildup’ of the cash value of life insurance and annuities,” the panel writes on page 119 of its report.

Today, the panel notes on page 123 of its report, “some life insurance policies and annuities allow for nearly unlimited tax-free savings. Currently, there is no taxable income until the policy is cashed in, even though the policyholder is receiving the benefit of increases or ‘inside buildup’ in the value of the policy or annuity. In addition, withdrawals from policies are tax-favored.”

If the “Simplified Income Tax Plan,” a proposal that would create a streamlined version of the current tax system, were adopted, “the increase in the value of those policies would be treated as current income, and therefore would be subject to tax on an annual basis, just like a savings account,” the panel writes.

But the panel says consumers could use cash in tax-deferred Save for Retirement Accounts and Save for Family Accounts to buy products such as whole-life insurance policies and deferred annuities.

“Products that cannot be cashed out and annuities that provide regular, periodic payouts of substantially equal amounts until the death of the holder (known as lifetime annuities) would not be taxed on an inside build-up, the same treatment as under current law,” the panel writes.

The panel goes on to observe that the Simplified Income Tax Plan would eliminate executives’ ability to save through executive deferred compensation plans.

The proposal would grandfather in existing life insurance policies, annuities and deferred compensation plans.

The Save for Retirement Accounts would be available for all taxpayers and have an annual contribution limit of $10,000.

Like the proposed “SRAs,” the proposed SFAs would have an annual contribution limit of $10,000.

All taxpayers would be able to use pre-tax dollars to purchase health insurance coverage, but with a limit of the amount of the average premium, which the panel estimated at $5,000 for individuals and $11,500 for families.

John Breaux, the panel vice chairman and a former Democratic senator from Florida, said these limits on health insurance expenditures are a positive “in the sense of connecting people with the costs of their health plans,” which are typically borne by employers.

Mack said the limits would serve not as an impediment to health care plans but as a “tax on excessive health plans” that can cost $15,000 to $16,000 annually.

The panel notes on page 81 of its report that cutting the health insurance deduction at $8,400 would allow a 3% reduction in the overall average income tax rate and that eliminating the deduction would allow a 14% rate reduction.

Under current conditions, “tax benefits associated with health care will cost approximately $141 billion, or 12% of all federal income tax revenue in 2006,” the panel writes on page 79 of the report.

The panel also proposes that the government eliminate all tax breaks for group life insurance, employer-sponsored child care benefits, and other fringe benefits.

Although fringe benefit tax breaks serve a worthwhile goal of encouraging employers to provide benefits, “the practical effect is favored treatment for some workers at the expense of higher rates for all taxpayers, including those who do not receive benefits at work,” the panel writes on page 85 of the report.

The other tax reform proposal, the consumption-based proposal, would set a lower cap on the health insurance deduction. Because that proposal would eliminate taxes on investment earnings, it also would appear to eliminate the need for the special accounts that would be used with the Simplified Income Tax Plan, the reform panel says. The consumption-based proposal could reduce the appeal of tax breaks associated with a wide variety of insurance and annuity products.

Groups protesting the idea of tampering with the current tax status of many life insurance and annuity products include the American Council of Life Insurers, Washington; the Association for Advanced Life Underwriting, Falls Church, Va.; the National Association of Insurance and Financial Advisors, Falls Church, Va.; and the National Association of Independent Life Brokerage Agencies, Fairfax, Va.

“Congress has long recognized the important role life insurance and annuities play in financially protecting American families,” the groups say in a joint statement. “The options offered to the U.S. Treasury Department by the advisory panel would, for the first time, impose taxes on these products – taxes that would discourage people from securing the lifetime protection they need.”

The American Society of Pension Professionals & Actuaries, Arlington, Va., predicts that enactment of the reform proposals would devastate millions of workers’ retirement security by eliminating most of the immediate tax incentives used to promote long-term saving and by taking away the personal incentives owners of small businesses now have to offer retirement plans.

“Without the upfront tax deduction [for 401(k) contributions], we believe many workers currently saving in their 401(k) will choose not to save,” says ASPPA Executive Director Brian Graff.

The tax panel itself says in its report that it was able to finance lower tax rates on taxpayers with the highest incomes by eliminating the pre-tax deduction for retirement plan contributions, ASPPA says.

“ASPPA believes that it is totally unacceptable to lower tax rates for higher income individuals by sacrificing the savings tax incentives for American workers,” Graff says.

James Klein, president of the American Benefits Council, Washington, has issued a cautious statement expressing the council’s fears about the tax reform proposals.

“We are concerned that taxing health benefits will lead many workers to drop coverage or demand much higher wages to offset the additional tax burden,” Klein says. “The panel’s proposals for retirement savings are intriguing but unproven as to whether they would result in greater savings.”

Links to the text of sections of the final tax reform report are at http://www.taxreformpanel.gov/final-report/