Obama Budget’s Retirement Savings Cap Targets Wealthy

With the release of its 2016 spending blueprint on Monday, the Obama White House officially signaled its intent to raise taxes on the wealthiest Americans, in part by placing limits on retirement savings.

The proposed budget, which allots $4 trillion in spending for fiscal year 2016, proposes to cap tax-deferred saving in 401(k) and Individual Retirement Accounts at about $3.4 million. 

That amount of savings generates more than $200,000 in income annually when annuitized, an amount that should be sufficient for most, according to the Obama administration’s rationale behind the proposal. 

The vast majority of Americans would never feel the cap. In 2011, only one out of every 1,000 Americans had more than $3 million in their retirement accounts, according to the Employee Benefit Research Institute. That said, many in the industry oppose the cap, especially in light of concerns over the likelihood of rising interest rates.

“Politically, it is convenient to target people who have saved $3.4 million,” said Jim Klein, president of the American Benefits Council. “But the devil is in the details when you look at the impact on younger workers and the inevitability that interest rates will rise over the coming decades.” 

The problem is that annuity prices vary with interest rates because insurance companies buy bonds to finance pay-outs. When bond yields are low, as they are now, annuities are more expensive. Right now a 10-year Treasury bond yield is just 2 percent. If it jumps to 5 percent (the rate in 2006), that $205,000 annual annuity would only cost $2.2 million. In other words, the cap would drop, subjecting any higher amounts to more taxation while leaving the saver with less.

In defending its proposed limit, the White House budget said that, “while tax-preferred retirement plans are intended to help middle-class workers prepare for retirement, loopholes in the tax system have let some wealthy individuals convert these accounts into tax shelters.”

In further making their case, the White House and Department of Labor noted that as many as 78 million working Americans — about half the workforce — do not have a retirement savings plan at work. Fewer than 10 percent of those without plans at work save in a retirement account on their own, the administration said.

The cap – an idea that Obama proposed last year as well – is a relatively small gambit in the budget’s larger effort to raise revenues by increasing capital gains taxes, inheritance taxes, and taxes on foreign revenue streams of U.S. multinational companies. 

Investment Company Institute President and CEO Paul Schott Stevens said his organization “strongly opposed” any limits on retirement-savings incentives.

“Policy changes of this kind are simply wrongheaded. … The administration’s proposals would penalize workers trying to set aside a nest egg for retirement, discourage employers from offering retirement plans, and add unnecessary complexity to retirement savings.”

A recent ICI survey found Americans overwhelmingly oppose changing tax incentives for retirement savings.