They’re Coming For Your 401(k)

The other day I related a story about how Nancy Pelosi once successfully derailed an Obama idea that would have been akin to declaring war on the upper middle class – a thing you don’t do unless you’re trying to throw an election sometime in the future…

There was a moment a few years back where President Obama had proposed an end to the deduction for 529 college savings plan contributions. He was on an airplane with Nancy Pelosi flying back to the US from the Middle East. When she got wind of the plan, in the air, she straightened out Obama on what the uproar would be in-flight. By the time the plane landed, the proposal was dead.

There’s vague talk in the air about the Trump administration considering a change in tax law for 401(k) contributions. Currently, when you contribute to your employer’s plan, you do so with pre-tax dollars. It’s been estimated that this will “cost” the Federal government some $538 billion between 2016 and 2020. Which is a statement that only a moron would make. For the following reasons:

1. The Federal government does eventually see this “lost” tax revenue, but it has to wait until the worker is withdrawing their savings in retirement. Which is the whole point of these plans existing – the retirement part.
2. Can you imagine if people weren’t saving for their own retirements? There’s a reason pensions began to slowly (and then suddenly) disappear in the 1980’s and 1990’s – and it’s because they weren’t translating well into the new, more dynamic economy.
3. Absent 401(k) balances, American workers would end up on government assistance in record numbers or our whole society would collapse under the weight of our aging population. Explain to me how that would be a positive for our fiscal situation. I’m all ears.
4. There would be plenty of lost tax revenue from Wall Street and the asset management industry if we dis-incentivized household investing. And that is exactly what removing this pre-tax contribution feature would do, like it or not.

On this last point, we’ve got some data. Investors Business Daily cites the Committee on Investment of Employee Benefit Assets (CIEBA), which admittedly is an industry group with a dog in this fight, but still…

CIEBA notes that turning a 401(k) into a Roth IRA – wherein money is contributed after being taxed – would kill off a lot of participation. Consider (emphasis mine):

Members of CIEBA, which represents retirement plan interests before Congress, regulators and the media, cited in a survey several downsides to Rothification of 401(k) plans. One is that it probably will lead many workers to stop contributing to their accounts. A whopping 78% said that would be likely. “The upfront tax benefits are a big reason why many plan participants contribute,” Simmons said. “Without those benefits, many participants would not see sufficient reason to participate.”

Rothification would also force employers to go through a costly and time consuming re-education effort. Eighty-two percent of CIEBA members said the new communications would be difficult.

“There’s a danger that many small companies would stop offering 401(k) plans altogether,” Simmons said.

And 96% said workers in their plans would view such a change negatively.

The other thing people will say is “What’s so bad about using post-tax money? They will withdraw tax-free later in life!” What’s so bad is that people aren’t incentivized by later in life. Not to mention the fact that, theoretically, you’re in a higher bracket today than you will be at 70 years old without an income. Removing the tax-free status of contributions today will flat out discourage contributions period. We know this because of the current popularity (or lack thereof) of the Roth structure.

Seventy-four percent of CIEBA members offer Roth options in their 401(k) plans already. But on average only 10% of plan members bother to use them. “That shows limited interest in Roth accounts,” Simmons said.

Besides, contributing money today after 35% has been taken from you means you’re starting with less to compound over the ensuing years. And, as even a child understands, when it comes to compounding, the earlier you start and the more you start with, the better the results.

We already have a huge retirement crisis brewing. Tens of millions of households are unprepared, despite the fact that balances across the entire 401(k) complex are shattering new records. The problems we face have more to do with a lack of participation among all households. Those who are participating are doing great. Do we want to pass a corporate tax break by discouraging new 401(k) enrollment? How could that possibly be a net positive for the economy?

Don’t tell me it will spur hiring because that’s a lie that is easily refuted. Corporate profit margins have never been higher and have been elevated for almost a decade now. The pace of hiring is what it is. Clearly margins are not holding back employment.

One last ridiculous point being made by people who should know better – “401(k) plans are a giveaway to the upper middle class and they increase income inequality.” Nope. The stock market is a large part of the reason that millions of new households are able to join the upper middle class each year. Having invested assets is the difference between being a worker and an owner. In case you haven’t been keeping track, only the owners are winning in the new economy. These plans are helping to democratize the ownership of the stock market amongst more families in America. Inequality will not ever completely go away, but plan participation is a part of the solution, not part of the problem. Besides, equality can’t be a serious goal in a capitalistic society, but widespread comfort and fairness of competition can be.

We should want to see more ownership of assets among the workforce, not less. How is this not obvious?

79% of American workers are employed by firms that offer a corporate retirement plan – but a majority of these workers are not taking advantage and contributing to them. That’s the problem we should be working on.