Individual retirement accounts (IRAs) allow retirement savers the ability to accumulate money on a tax-deferred (or in the case of a Roth IRA tax-free) basis for retirement. They are often seen as a pool of available additional tax revenue and there are several measures that have been discussed over the years to eliminate some of the advantageous features of IRA accounts to increase tax revenues. Here is a look at six potential measures, five of which could hurt some IRA investors, that could come before Congress in 2017.
Currently, non-spousal beneficiaries can use an inherited IRA to stretch the tax-deferred nature of the account for many years. Non-spousal beneficiaries must take required minimum distributions (RMDs) from these accounts, but they are allowed to take the RMD based upon their own age and not the age of the original account owner. (For more, see: Roth vs. Traditional IRA: Which is Right for You?)
If the account owner was taking RMDs at the time of their death then the non-spousal beneficiary must continue to do so as well. If not, they can wait until they reach age 70½. In the former case, a younger beneficiary can take a reduced RMD based upon their own life expectancy and effectively stretch out the IRA until their own retirement or beyond. In the latter instance, the account can provide many more years of tax-deferred growth for the beneficiary.
Eliminating this option for non-spousal IRA beneficiaries would increase tax revenues by forcing these beneficiaries to take a lump-sum distribution from the inherited account, often during their peak earning years further boosting the tax hit.
One of the advantages of a Roth IRA is that they are not subject to RMDs. This allows the account to grow tax free and for tax free withdrawals as well. Additionally, this feature offers alternatives for estate planning purposes allowing these accounts to be passed easily to heirs. The thought is that requiring RMDs would likely cause the account holder to invest the proceeds in a taxable account which would generate additional tax revenue for the U.S. Treasury. This also limits planning options for the account holder in terms of their own retirement and their estate planning objectives. (For more, see: Converting Traditional IRA Savings to a Roth IRA.)
This would eliminate a strategy used by high-income investors whose income would otherwise disqualify them from making a Roth IRA contribution. The investor makes an after-tax contribution to a traditional IRA and then converts it to a Roth. If they have little or no other assets in an IRA, this can be allow them to avoid the taxes normally associated with converting to a Roth.
The net unrealized appreciation (NUA) rules allow those holding low basis company stock in their 401(k) account the option of paying taxes on the amount of the basis in the stock when taking a distribution and then paying long-term capital gains taxes down the road when the stock is sold from the taxable account it is moved to upon distribution. This would cause most investors to roll the stock over to an IRA along with other funds in the account and they would be required to pay taxes at higher ordinary income tax rates down the road when they take a distribution. (For more, see: How Much Are Taxes on an IRA Withdrawal?)
This issue gained prominence during the 2012 election as Democrats made an issue of Republican candidate Mitt Romney’s wealth, which included a very large IRA account. This measure would put a cap on the amount that an investor could have in an IRA account, again with the goals of limiting tax-deferred growth and increasing tax revenues.
Passing this measure would essentially put the government in the position of telling investors how much is enough in terms of retirement savings. With the possibility of Social Security and Medicare having long-term viability issues, there will be increased pressure on individuals to fund more and more of their retirement via their savings.
If this measure is enacted those with IRA account values under $100,000, presumably at year-end which is the basis for the RMD for the following year, would be exempted from having to take their annual required distribution. This is a good thing for these investors as it allows them to continue to keep their assets growing in a tax-deferred account and potentially reduces their tax bill. Those with lower account balances would probably continue to withdraw funds as they are likely not able to do without this source of retirement income so the actual hit to tax revenue would likely be mitigated.
The measures listed above could come before the next Congress in 2017. With a new administration in Washington and a GOP majority in both houses of Congress these measures might be less likely to pass than in the past. (For more, see: Traditional and Roth IRAs: Which is Better for Taxes?)