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Industry Still Wary of ‘Rothification’ Despite Trump’s Opposition

Posted on October 24, 2017 by Stephanie Cumings

President Trump may be opposed to modifying the tax treatment of section 401(k) plans as part of tax reform, but the retirement savings industry remains cautious about potential change.

“There will be NO change to your 401(k),” Trump tweeted on the morning of October 23, contradicting months of rumors that a Republican tax plan might reduce the pretax benefits of section 401(k) plans in favor of Roth contributions. “This has always been a great and popular middle class tax break that works, and it stays!” Trump tweeted.

Brian Graff of the American Retirement Association praised the president’s comments, but told Tax Analysts that “we’re still going to remain diligent about protecting the retirement savings system because things could change.” Graff said that the industry will continue to be vigilant as long as Republicans are looking for revenue sources to offset tax cuts.

Trump’s tweet followed reports from The New York Times and The Wall Street Journal that Republicans are considering a proposal to cap tax-deferred contributions to section 401(k) plans at $2,400 annually. Presumably, anything after $2,400 would be an after-tax Roth contribution. Limiting the pretax benefits of section 401(k) plans could raise hundreds of billions of dollars within a short-term budget window, and the lower the cap, the greater the revenue gain. However, the apparent revenue gains have been criticized as a budget gimmick that merely shifts future revenue into the budget window without meaningfully raising revenue over the long term. Senate Democrats called the so-called Rothification proposal a “sham” from a fiscal standpoint.

“Whatever they do, it should be a retirement policy discussion, not a discussion on how to raise money to pay for corporate tax cuts,” Graff said.

In response to the $2,400 cap rumor, the Employee Benefits Research Institute (EBRI) released data October 23 showing the number of people who would be affected by the cap at various income levels. According to EBRI, 60 percent of individuals making between $50,000 and $75,000 a year already contribute more than $2,400 a year to their 401(k)s, and thus would lose some of their tax-deferred benefit under the cap. People making less than $25,000 a year would also be affected, although the number drops to 38 percent. And predictably, individuals making over $100,000 a year would be most affected, with 87 percent already exceeding the $2,400 cap. The EBRI data was first made public at the American Society of Pension Professionals and Actuaries’ annual conference at National Harbor, Maryland.

“For those middle-class Americans, taking away their pretax deduction without any other incentives is a middle-class tax increase,” Graff said.

Former House Ways and Means Committee Chair Dave Camp included a similar proposal with a higher cap in his 2014 tax reform proposal. Under Camp’s plan, contributions made in excess of one-half of the applicable IRS limit — $17,500 in 2014 — would become Roth contributions. The Joint Committee on Taxation estimated that this approach would raise about $144 billion over 10 years.

The Republicans’ unified framework issued last month stated that tax reform will aim to “maintain or raise retirement plan participation of workers and the resources available for retirement,” but it also recommended simplifying the tax benefits that encourage retirement security to “improve their efficiency and effectiveness.”

The Save Our Savings Coalition — a group dedicated to aiding the retirement savings system during tax reform — said in a statement that it was “thrilled” with the president’s comments. “President Trump made clear just how much retirement savings matter to families across the country — and the Save Our Savings Coalition could not agree more,” said the group, which includes the American Retirement Association and AARP as members. It added that “any effort to reform the tax code must protect these families and the retirement planning they've depended upon for generations.”

Lynn Dudley of the American Benefits Council, another coalition member, reiterated the same industry criticisms of Rothification that have been circulating for months: “Not only is this short-sighted — effectively forgoing future revenue to pay for present-day spending — it is also a dangerous experiment that could have seriously negative effects on individuals’ savings behavior,” Dudley said.

According to Graff, other proposals in tax reform could assuage industry concerns about Rothification, such as an increased savers credit. But so far, no such proposals have materialized and nothing in the unified framework seems to have stemmed opposition to Rothification.