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Retirement Planning > Saving for Retirement > IRAs

Ed Slott Weighs In on House Democrats' Proposed Mega-IRA Crackdown

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What You Need to Know

  • The proposals will not likely see much pushback as most of them target a small group of IRA holders, Slott said.
  • Inadvertently, Slott says, lawmakers have answered the question of whether mega backdoor Roth IRAs are legal.
  • The House Ways and Means Committee plans to vote on the proposals this week.

House Ways and Means Committee Chairman Richard Neal’s plan to usher in several changes to individual retirement accounts “will not likely see much pushback because most people will never have to worry about their IRA balances exceeding $20 million,” IRA and tax specialist Ed Slott of Ed Slott & Co. told ThinkAdvisor late Monday in an email. “And the few who do will easily move on to the next workaround that Congress has not yet thought of.”

The committee’s plans to vote Tuesday and Wednesday on several changes to individual retirement accounts, part of a much larger tax package, “are focused on a small group with big retirement account balances,” Slott said.

Committee Chairman Richard Neal’s plan, released Monday, prohibits taxpayers from contributing to their IRAs once their account balance exceeds $10 million, increases the required minimum distributions for high-income taxpayers with large balances and eliminates so-called backdoor Roth IRA strategies for certain taxpayers.

Congress, Slott said, “believes that these [IRA] accounts were meant for more modest savers who will rely on these funds for their retirement years, and not as a way for the government to ‘subsidize’ tax benefits for the super-rich on tens of millions of dollars.”

Some of Neal’s proposals “target a microscopic group of those with retirement accounts in excess of $10 and $20 million which, compared to the tens of millions who have IRAs, is like a grain of sand on the beach,” Slott maintained.

Slott offered the following insight on Neal’s planned changes to IRAs.

Limit on IRA Contributions for Mega-IRAs

Neal’s plan prohibits further contributions to a Roth or traditional IRAs for a taxable year if the total value of an individual’s IRA and defined contribution retirement accounts generally exceed $10 million as of the end of the prior taxable year. This limit would apply to taxpayers with income in excess of $400,000 (single), or $450,000 (married-joint).

“This seems sensible, but I don’t see this making that much of a difference to anyone with over $10 million in their retirement accounts,” Slott said. “For example, the maximum IRA (or Roth IRA) contribution for 2021 is only $6,000 (and $7,000 if 50 or over). Plus, there is no such restriction in the proposal for limits to 401(k) contributions where these same people could still contribute up to $19,500 to a company plan (or up to $26,000 if age 50 or over).”

Also, Slott pointed out, “notice the big marriage penalty here. The single limit is $400,000 while the married joint limit is $450,000. Two singles could have up to a combined $800,000 limit.”

RMD Hikes

If an individual’s combined traditional IRA, Roth IRA and defined contribution retirement account balances generally exceed $10 million at the end of a taxable year, a minimum distribution would be required for the following year. This RMD would be 50% of the balance above $10 million, and this provision would apply to those with incomes over the same limits as above ($400,000/$450,000), Slott explained.

In addition, if combined retirement account balances exceed $20 million, then the excess over $20 million must be distributed from Roth accounts (Roth IRAs and company plan Roth accounts). “This RMD would be based on the lower of the amount needed to bring the combined balances down to $20 million or the balance in all Roth accounts, including Roth 401(k)s,” Slott said.

He added: “This would obviously deter savers from exceeding these limits in their retirement accounts, but again, this is very small population. Nonetheless, this will probably sell well to most people who have nowhere near these staggering account balances.”

Backdoor Roth IRA Curbs for High Earners

In order to close so-called “backdoor” Roth IRA strategies, the bill eliminates Roth conversions for both IRAs and employer-sponsored plans for single taxpayers (or taxpayers married filing separately) with taxable income over $400,000, married taxpayers filing jointly with taxable income over $450,000, and heads of households with taxable income over $425,000 (all indexed for inflation).

“This is similar to the old $100,000 income limitation for Roth conversions that existed before 2010, except now the income limits are increased to the $400,000/$450,000 levels,” Slott explained. “Oddly though, this proposal would not be effective for 10 years. The effective date says this would apply in years after Dec. 31, 2031.”

This change “would end Roth conversions for high-earners, but Congress still wants its conversion tax dollars. What to do?” Slott continued. “Maybe this delayed effective date shows us that Congress still needs this Roth conversion revenue so it can fill budget gaps, at least for the next 10 years. So, this provision is a non-issue for now.”

Elimination of Mega Backdoor Roth

This section prohibits all employee after-tax contributions in qualified plans and prohibits after-tax IRA contributions from being converted to Roth IRAs regardless of income level, effective for distributions, transfers and contributions made after Dec. 31, 2021.

The plan “would be an all-out ban on backdoor Roths from IRAs and mega backdoor Roths from plans, regardless of income,” Slott said. “At least this inadvertently finally answered the question of whether backdoor Roths are legal. They obviously are, because if they weren’t Congress would not need to end them.”

Restriction on IRA Investments

The bill prohibits an IRA from holding any security if the issuer of the security requires the IRA owner to have certain minimum level of assets or income, or have completed a minimum level of education or obtained a specific license or credential, Slott said.

“For example, the legislation prohibits IRAs from holding investments which are offered to accredited investors because those investments are securities that have not been registered under federal securities laws. IRAs holding such investments would lose their IRA status.

“This is a direct hit on Peter Thiel (who already did this) and other would-be Thiels with certain knowledge and opportunities that other run-of-the mill investors/savers would not have,” Slott explained. “This seems fair as a way of leveling the playing field for all investors.”

Expansion of IRS Limitations Period

The bill expands the statute of limitations for IRA noncompliance related to valuation-related misreporting and prohibited transactions from three years to six years.

“Again, this is a provision created in the wake of Peter Thiel’s $5 billion Roth IRA and the questions surrounding a proper valuation,” Slott said. “This will give IRS more time to review these valuations well beyond the traditional 3-year statute of limitations.”

Tightening Up Self-Dealing Rules

“To prevent self-dealing, under current law prohibited transaction rules, an IRA owner cannot invest his or her IRA assets in a corporation, partnership, trust, or estate in which he or she has a 50% or greater interest,” Slott explained.

However, he continued, “an IRA owner can invest IRA assets in a business in which he or she owns, for example, one-third of the business while also acting as the CEO. The bill adjusts the 50% threshold to 10% for investments that are not tradable on an established securities market, regardless of whether the IRA owner has a direct or indirect interest. The bill also prevents investing in an entity in which the IRA owner is an officer.”

Pictured: Ed Slott


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