Reducing retirement savings incentives would hurt working families while doing less to cut the federal deficit than the budget hawks predict, pension experts say.
Judy Xanthopoulos, an economist, and Mary Schmitt, a tax lawyer, write in an analysis distributed by the American Society of Pension Professionals and Actuaries (ASPPA), Arlington, Va., that the real cost of the retirement savings incentives is about 55% to 75% lower than the budget hawks have estimated.
Officials at the federal Office of Management Budget have reported — both during the Bush administration and the Obama administration — that tax breaks for 401(k) plans, individual retirement accounts (IRAs) and other retirement plan programs lead to many billions of dollars in lost federal income tax revenue, or “tax expenditures.”
Analysts at the congressional Joint Committee on Taxation (JCT) estimate, for example, that retirement savings incentive tax expenditures will increase to $174 billion in 2013, from $120 billion this year.
Some would be budget-cutters have suggested capping, reducing or even eliminating the incentives as a strategy for controlling the federal budget deficit.
JCT tax analysts and analysts at the Office of Tax Analysis (OTA) at the U.S. Treasury Department now compute retirement savings incentive tax expenditure estimates by measuring the difference between current taxes deferred and revenues received from prior-year tax deferrals, Xanthopoulos and Schmitt write in the ASPPA analysis.
“This cash-flow measure is appropriate for deductions or exclusions from income where the tax benefit occurs in the year of the deduction, but it overstates the value of retirement savings provisions in absolute terms,” Xanthopoulos and Schmitt say.
Retirement savers get two types of tax benefits: Tax-exempt earnings on retirement savings, and a lower tax rate on savings they withdraw. To avoid making apples-to-watermelons comparisons, analysts should measure the present value of the tax benefits attributable to the current-year retirement saving contributions, Xanthopoulos and Schmitt say.
For tax expenditure purposes, the benefit is the sum of the present value of the tax benefit on future earnings plus the present value of the tax benefit of deferral on the current year contributions, Xanthopoulos and Schmitt say.
ASPPA calculations made using that approach produce 1-year present-value tax expenditure estimates that are 34% lower than the JCT 1-year estimates and 54% lower than the OTA 1-year estimates.
The present value of the ASPPA 5-year tax expenditure estimate is 55% lower than the present value of the JCT estimate and 75% lower than the present value of the OTA analysis, Xanthopoulos and Schmitt say.
“ASPPA’s analysis, which takes the same long-term view that economists employ in evaluating other forms of investment, shows that the short-term window used in Washington budget scoring overstates the cost of retirement savings incentives – and therefore the savings that would result from slashing these incentives,” ASPPA Executive Director Brian Graff says in a statement about the analysis.
Families with annual incomes under $100,000 get about 62% of the tax benefits from 401(k) plans, for example, and trying to cut the federal budget deficit by making 401(k) plans less attractive could backfire, by increasing the number of workers who need government assistance because they have retired with inadequate savings, Graff says.