Friday, April 19, 2013

Where Bad Law Comes From -- Anatomy of a Bad Proposal

I'm not sure who writes the Administration's budget proposals. I know who is responsible, but the question is who actually writes them.

I ask because of the revenue-raising proposal to limit tax-favored retirement savings. What has been reported is that tax-favored savings will be limited to $3 million. That's a pretty good amount of money. But, the rumor that is circulating among some people in the know is a bit different.

Here is what it seems to be. For an individual, you take all of their tax-favored savings. That would appear to include Roth 401(k) as well as traditional and Roth IRAs, SIMPLE accounts, Keoghs, qualified defined contribution and qualified defined benefits. Then, you express them all as an annuity as Social Security Normal Retirement Age and the sum cannot exceed the 415(b) limit (currently $205,000 per year).

Do I think that is a bad concept? Well, in theory, limiting what people can save for retirement on a tax-favored basis is already done. The old 415(e) combined limit used to do something like this. But, that was from a single employer.

Suppose we start out simply. Adam (I picked Adam because it starts with an A) has only worked for one employer. He is about to reach his Social Security Normal Retirement Age (SSNRA) and he has the following:

  • An accrued benefit in his DB plan of $100,000 per year
  • A 401(k) account balance of $1,000,000
  • An IRA with an account balance of $1,250,000
Whose responsibility is it to calculate the total limit? Is Adam required to tell his employer about his IRA? How are the conversions done? In this simple situation, it's not easy.

Beth, on the other hand, has jumped around from employer to employer. She is 45 years old and has accrued benefits in two DB plans, account balances in three 401(k) plans and an ESOP. She also has an IRA. One of her DB plans gives her an automatic cost of living adjustment (COLA). Who has to administer this? How? Who is responsible for telling whom what? Suppose Beth works two jobs that both provide benefits and she exceeds the limit, which one gets cut back.

Wouldn't you just love to be the people at Treasury and IRS who have to figure out how to regulate this?

The proposal may not be bad in theory, but as I understand the way it is being proposed, it is a disaster.

Stay tuned ...


  1. Hi John,

    Before 1999 Section 403(b) programs were subject to similar restrictions. Contribution rates were determined by methods that accounted for a participant's age, salary and years of employment. Participants were allowed to select a contribution method that would determine their maximum annual rate. Usually, the first method allowed for the largest contribution over a period of employment, but the last method allowed a high rate for a short period of time before eventually equating to zero. It is important to note the method could not be changed.
    This was incredibly costly and cumbersome to administer. It required outside DC counsel, and the assistance of a third party administrator. Frequently, logic determined a course of action based on fairness, but people were afraid of taking action.
    This will be a disaster, but it will mean big money for DC law firms, and large HR corporations.
    Tom Gunn

  2. Tom, thanks for reading and commenting. I agree with all you, but it sure doesn't make the 'proposal' any better.