President Obama recently released his 2015 budget proposal. The proposal included the following potential changes to investors’ retirement accounts:
Apply the required minimum distribution rule to Roth IRAs
There are currently two main reasons to invest in a Roth IRA: to pay taxes at your current rate in anticipation of being in a higher tax bracket in the future, and to invest in an account that does not require minimum distributions when the investor comes of age. 70½. However, President Obama’s 2015 budget requires Roth accounts to be subject to the same RMD rules as other IRAs and 401ks.
This change would make Roth IRAs much less attractive to much of the investment community. Additionally, the rule would dramatically reduce the benefit to many people of converting their traditional retirement accounts to Roth accounts. Ultimately, this rule would essentially betray all investors who have already converted their accounts to Roths by taking away a profit they were counting on.
Eliminate Stretch IRA
Non-spouse retirement account beneficiaries currently have the option of withdrawing funds within five years of the death of the original IRA owner or spreading distributions from the IRA over its expected useful life. Obama’s proposal would eliminate the ability of non-spouse beneficiaries to stretch distributions over a period of more than five years.
If implemented, this change would have serious tax implications for people who inherit an IRA or 401k and would dramatically reduce the value of tax-deferred accounts as estate planning tools.
Cap on tax benefit for retirement account contributions
Currently, investors get a full tax deferral benefit on all contributions to retirement accounts. Under Obama’s proposal, the maximum tax benefit that would be allowed on retirement contributions would be 28%. Consequently, an investor in the 39.6% tax bracket would only be able to deduct 28% and would still be taxed at 11.6% (39.6% – 28%) on all contributions made.
Eliminate RMDs for retirement accounts under $100k
Simply put, people whose tax-deferred accounts have a total value of less than $100k would no longer be subject to the required minimum distribution rules. This would allow retirees with less in their retirement accounts to better take advantage of the tax-deferred benefit an IRA provides.
Retirement Account Value Limit New Contributions
Under the new proposal, once the value of an individual’s retirement account grows to a certain limit, no further contributions will be allowed. This cap would be determined by calculating the lump-sum payment that would be required to produce a joint and 100% survivor annuity of $210,000 beginning on the investor’s 62nd birthday. Currently, this formula would indicate a cap of $3.2 million. This cap would be adjusted for inflation.
Proposal, not law…
Please note that these potential changes are currently only proposals and are not certain to be implemented into law. In fact, with the exception of RMDs for Roth accounts, all of these suggested adjustments were proposed by Obama last year and none were approved by Congress. Consequently, history suggests that Obama may have difficulty implementing these changes. Still, examining the proposals provides an idea of the direction President Obama would like to go.
