Congress Isn’t Finished Coming After Your Retirement Money And Estate

The Biden administration and Congress plan to spend a lot more money in 2021 and beyond. They’re also planning to raise taxes to pay for a lot of that spending and also to refashion the economy and reduce inequality. The tax increases proposed so far have been on large corporations, and bills have been proposed in Congress that would tax the estates of the wealthy. But the revenue raised from those changes would raise only a fraction of the tax revenue needed to fund the spending plans. Congress has to look elsewhere to raise more money.

A lot of the revenue to pay for the new spending is likely to come from retirement plans, according to several speakers at a recent American Bar Association Section on Taxation virtual conference reported in Tax Notes Today. Speakers at the conference said that in recent years, retirement plans often have been one of the first places elected officials and staff on Capital Hill look when they need revenue.

Congress spent decades providing tax incentives for people to put money into retirement accounts. There now are trillions of dollars sheltered in various types of retirement accounts, and Congress wants the money to be distributed and taxed.

In 2019 when Congress needed money to pay for the retirement plan tax breaks created in the Setting Every Community Up for Retirement Enhancement (SECURE) Act, it eliminated the Stretch IRA. The idea had been proposed for years and had bipartisan support. Now, the congressional leaders who sponsored the SECURE Act have proposed another set of retirement plan enhancements that are known generally as the SECURE Act 2.0. The House Ways and Means Committee is likely to vote on the bill in the next few weeks. So far, there’s nothing in the SECURE Act 2.0 indicating how all the tax breaks will be paid for. As they did with the original SECURE Act, congressional leaders are likely to wait until late in the legislative process and add a tax increase that’s been proposed over the last few years and has strong bipartisan support. That was the case with the end of the Stretch IRA enacted in the SECURE Act.

There are several proposals that have been pushed the last few years by bipartisan groups and are good candidates to be added to the SECURE Act 2.0. Here’s a list I developed.

Required minimum distributions might be imposed on original owners of Roth IRAs and 401(k)s. Currently, original Roth account owners don’t have to take required minimum distributions.

The back-door Roth IRA might be eliminated. In this strategy a taxpayer whose income is too high to allow a contribution to a Roth IRA can make a nondeductible contribution to a traditional IRA. Then, the taxpayer can convert that traditional IRA to a Roth IRA, at little or no tax cost.

Currently, an employee can make annual after-tax contributions of up to $37,000 to a 401(k) account that are in addition to the regular pre-tax contributions. These after-tax contributions can be rolled over to a Roth IRA, allowing a large Roth IRA to be built up over time. Congress could eliminate this retirement funding strategy.

Congress might decide to put a limit on the amount that can be accumulated in an IRA or 401(k), prohibiting additional contributions after an individual accrues “too much” in the retirement accounts.

The maximum contributions, deductions or deferrals for IRAs and 401(k)s could be reduced so that higher-income taxpayers receive less of a benefit. President Biden has proposed a variation of this by providing a tax credit instead of an income tax deduction or deferral for retirement plan contributions. The tax credit would be computed assuming a 22% tax rate, which would reduce the tax benefits of contributions for higher-income taxpayers.

One thing we learned from the Stretch IRA experience is that these changes don’t happen overnight. The ideas are proposed over several years in speeches, campaign platforms, proposed legislation, and other official documents. When Congress needs to raise some tax revenue, it grabs one or more of these ideas that have been floated and puts them in the latest bill.

Each of the ideas listed above fits that pattern and so might be in an upcoming law. Make use of them while you can. You also might want to consider strategies to restructure IRAs and other retirement plans by taking the money out now and paying taxes at today’s low rates, which could turn out to be the lowest for the rest of your life. The retirement plan proceeds could be converted into a Roth IRA, permanent life insurance, a charitable trust or more. The best strategy depends on your goals and situation.

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