What might a change in leadership mean for your retirement account? | Lord Abbett
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Retirement Perspectives

Exploring the Biden administration’s proposals and potential implications for retirement plan advisors, sponsors and clients.

Read time: 4 minutes

Now that we have begun a Joe Biden presidency, it’s time to evaluate the proposals of the new administration and the implications for workplace retirement plans. If and when any of these proposals move from possibilities to actual legislation, we aim to help prepare you for conversations with both plan sponsors and clients.

 

Here we preview what the Biden administration proposals may mean for retirement plan advisors, plan sponsors and clients.

 

The January 5th election of Raphael Warnock and Jon Ossoff of Georgia, giving Democrats control of the Senate, could have a significant impact on President Biden’s policy agenda—including tax increases and changes to workplace retirement plans. Democrats now hold a majority in both chambers if you count vice president Kamala Harris’s tie-breaking vote in the Senate. With Congress now under single-party Democratic rule it’s likely that we’ll see an ambitious agenda on tax policy and retirement security.

Retirement enjoys bipartisan support

Although it’s rarely easy for legislation to move forward, retirement security is an area that generally enjoys bipartisan support as seen in the recently passed SECURE Act of 2019.

While there were many income tax and retirement-related proposals pitched by Biden’s campaign, there are four broad areas we bring to your attention. President Biden has proposed to:

  1.  Level the playing field for 401(k) plan tax breaks for lower income workers earnings,
  2.  Improve access to retirement plans, and
  3.  Increase payroll (Social Security) taxes for higher wage earners.
  4.  Lower the age for Medicare eligibility to 60

Equalizing 401(k) plan tax benefits

What and why

  • President Biden believes that current tax benefits for retirement savings provide upper-income families with a much stronger tax break for saving and a limited benefit for lower and middle-class workers. To level the playing field, his administration supports ending upfront tax breaks for contributing to traditional 401(k) plans and replacing them with flat-tax credits.
  • This would “equalize" the incentive system by replacing tax-deductible contributions with flat-tax credits for each dollar saved.
  • While the percentage for the credit is to be determined, the Urban-Brookings Tax Policy Center has estimated a 26 percent credit would be roughly revenue-neutral over the first 20 years.

How it would work

  • A retirement plan participant who earns $60,000 would get the same tax break as someone making $600,000—an identical $260 tax credit for their $1,000 plan contribution. The credit would also be refundable; employees earning too little to offset their income tax liability would still receive the full value.

Implications

  • This arrangement would make 401(k)s more valuable to lower earning employees. "By and large, it would help lower- and middle-income people save more," says Eric Toder, co-director of Urban-Brookings Tax Policy Center.1
  • Would the reduced tax incentive for business owners impact their eventual willingness to make employer contributions or to offer a plan in the first place? It remains to be seen. Brian Graff, CEO of the American Retirement Association, opined that “reduced tax incentives for business owners would impact their willingness to make employer contributions or, even more worrisome, to have a retirement plan in the first place.” 2
  • “My view is that the Biden proposal is a desirable change on equity grounds,” says Alicia Munnell, Director of the Center for Retirement Research at Boston College. 2
  • Some experts opine that this could potentially push higher earners into a Roth 401(k) in the long run, if they seek to diversify tax treatment beyond pre-tax contributions.

Automatic enrollment 401(k)s

What and why

  • With assets totaling $6.5 billion, the 401(k) plan has become an indispensable retirement savings vehicle, especially as pension plans continue their decline.3  But too many Americans lack access to them. According to an analysis by the American Retirement Association, more than 5 million employers in the U.S. still don’t offer a workplace retirement savings benefit, a generation after the 401(k) plan was first introduced. 4
  • Under Biden's proposal, almost all private sector workers without a pension or 401(k)-type plan would have access to an 'automatic 401(k).'

How it would work

  • Details are scarce, but essentially it would require employers to offer a retirement plan. This may involve a mandate for employers to provide auto-enrollment plans with subsidies for small businesses to set them up, or possibly a government-provided defined contribution plan option, building on, say, state-run auto-enrollment savings programs.
  • For example OregonSaves —the nation's first state-run retirement plan for private-sector employees—imposes penalties of up to $5,000 per year on noncompliant employers. Other state mandated and administrator retirement plans include California (“CalSavers”) and Illinois (“Secure Choice”).

Implications

  • An automatic enrollment 401(k) should perhaps be referred to as an “automatically available 401(k)” to distinguish its real purpose - providing greater access. Retirement expert Alicia Munnell says, “That would be a really big deal.” 5

Social Security payroll taxes

What and why

  • Biden has proposed requiring high-wage earners to pay Social Security taxes on a higher percentage of their income in order to help provide more generous benefits to low earners.
  • This proposal is intended to make up some of the current gap between Social Security inflow and outflow without punishing upper middle-class workers.

How it would work

  • Currently, employees and employers each pay 6.2 percent from wages to fund Social Security, for a combined rate of 12.4 percent, with the tax applicable on earned income up to a set amount per year, now at $142,800 (2021).
  • While earnings immediately between $142,800 and $400,000 would continue to be exempt, earnings above $400,000 would be taxed at 12.4 percent. This would involve what is known as a “doughnut hole” payroll tax structure.
  • New taxes on earnings above $400,000 would not trigger additional Social Security benefits.

Implications

  • Some compensation specialists speculate that if the proposal is enacted, employers could face pressure to raise or "make whole" the pay of executives and other high earners, to compensate for a larger payroll tax bite. 6

Lowering the Medicare eligibility age to 60

What and why

  • The average American couple who retires at age 65 will spend nearly $300,000 on health expenses, which doesn’t include long-term care expenses. 7
  • Medicare eligibility doesn’t begin until age 65, leaving younger retirees to rely on other health care options (i.e. their state healthcare exchange) until they become Medicare-eligible.
  • Medicare doesn’t cover certain essential services such as vision, dental and hearing aids.

How it would work

  • Biden plans to drop the enrollment age to 60, thus reducing the burden of finding individual reasonably priced health care insurance policies during the “gap years” until age 65.
  • Biden also pledged to lower the cost of prescription drugs by allowing Medicare to negotiate with pharmaceutical companies, and allowing Americans to buy cheaper drugs abroad.

Implications

  • Bringing more people into the program would strengthen Medicare’s influence in the marketplace when it comes to negotiating prices.
  • Enrolling younger beneficiaries would likely lower the average cost per beneficiary.

Our key takeaways

  • These changes are collectively intended to democratize the American retirement system by making plans fairer, broadening the base of eligibility, improving the retirement security of lower and middle-income workers and strengthening Medicare. The impact would be felt by higher-paid employees.
  • Time will reveal the details and potential of these proposals becoming reality.

To learn more, contact your local Lord Abbett Regional Manager or call us at 888-522-2388.

 

1 “Biden’s Proposals Could Alter Retirement Plan Landscape,” SHRM, November 16, 2020

2 Munnell, Alicia, “Biden’s 401(k) plan: Changing tax incentive for retirement is a great idea,” MarketWatch, September 14, 2020

3 ICI, 9/30/2020

4 “ Millions of American Workers Still Lack Access to 401(k),” American Retirement Association, July 24, 2019

5 Munnell, Alicia, “Biden’s 401(k) plan: Changing tax incentive for retirement is a great idea,” MarketWatch, September 14, 2020

6 “Biden’s Proposals Could Alter Retirement Plan Landscape,” SHRM, November 16, 2020

7 2020 Retiree Health Care Cost estimate, Fidelity Investments

To comply with Treasury Department regulations, we inform you that, unless otherwise expressly indicated, any tax information contained herein is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties that may be imposed under the Internal Revenue Code or any other applicable tax law, or (ii) promoting, marketing, or recommending to another party any transaction, arrangement, or other matter.

The information is being provided for general educational purposes only and is not intended to provide legal or tax advice. You should consult your own legal or tax advisor for guidance on regulatory compliance matters. Any examples provided are for informational purposes only and are not intended to be reflective of actual results and are not indicative of any particular client situation.

The information provided is not directed at any investor or category of investors and is provided solely as general information about Lord Abbett's products and services and to otherwise provide general investment education. None of the information provided should be regarded as a suggestion to engage in or refrain from any investment-related course of action as neither Lord Abbett nor its affiliates are undertaking to provide impartial investment advice, act as an impartial adviser, or give advice in a fiduciary capacity. If you are an individual retirement investor, contact your financial advisor or other fiduciary about whether any given investment idea, strategy, product or service may be appropriate for your circumstances.

GLOSSARY

Traditional IRA contributions plus earnings, interest, dividends, and capital gains may compound tax-deferred until you withdraw them as retirement income. Amounts withdrawn from traditional IRA plans are generally included as taxable income in the year received and may be subject to 10% federal tax penalties if withdrawn prior to age 59½, unless an exception applies.

A Roth IRA is a tax-deferred and potentially tax-free savings plan available to all working individuals and their spouses who meet the IRS income requirements. Distributions, including accumulated earnings, may be made tax-free if the account has been held at least five years and the individual is at least 59½, or if any of the IRS exceptions apply. Contributions to a Roth IRA are not tax deductible, but withdrawals during retirement are generally tax-free.

A SIMPLE IRA plan is an IRA-based plan that gives small-business employers a simplified method to make contributions toward their employees’ retirement and their own retirement. Under a SIMPLE IRA plan, employees may choose to make salary reduction contributions and the employer makes matching or nonelective contributions. All contributions are made directly to an individual retirement account (IRA) set up for each employee (a SIMPLE IRA). SIMPLE IRA plans are maintained on a calendar-year basis.

A simplified employee pension plan (SEP IRA) is a retirement plan specifically designed for self-employed people and small-business owners. When establishing a SEP IRA plan for your business, you and any eligible employees establish your own separate SEP IRA; employer contributions are then made into each eligible employee’s SEP IRA.

401(k) is a qualified plan established by employers to which eligible employees may make salary deferral (salary reduction) contributions on an aftertax and/or pretax basis. Employers offering a 401(k) plan may make matching or nonelective contributions to the plan on behalf of eligible employees and may also add a profit-sharing feature to the plan. Earnings accrue on a tax-deferred basis.

A 403(b) plan is a retirement savings plan that allows employees of public schools, nonprofit, and 501(c)(3) tax-exempt organizations to invest on a pretax and or Roth aftertax basis. Contributions to a 403(b) plan are conveniently deducted directly from your paycheck. In addition, your employer may elect to make a contribution on your behalf.

A governmental 457(b) deferred-compensation plan allows employees of states, political subdivisions of a state, or any agency or instrumentality of a state to invest money on a pretax or Roth aftertax basis through salary reductions. The employer deposits amounts withheld into an annuity, custodial, or a trust account, where the funds accumulate tax-deferred or potentially tax free in the case of Roth aftertax contributions until withdrawals commence, usually at retirement.

A Thrift Savings Plan (TSP) is a tax-deferred retirement savings and investment plan that offers Federal employees the same type of savings and tax benefits that many private corporations offer their employees under 401(k) plans. By participating in the TSP, Federal employees have the opportunity to save part of their income for retirement and receive matching agency contributions.

Required minimum distribution (RMD) is the minimum amount you must withdraw from your account each year. You generally have to start taking withdrawals from your IRA, SEP IRA, SIMPLE IRA, or retirement plan account when you reach age 70½. Roth IRAs do not require withdrawals until after the death of the owner.

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