To the relief of corporations and middle-class in the US, President Donald Trump has promised that the new tax reform plan will significantly decrease taxes. However, this tax reform plan could have serious implications for the owners of 401(k) and their saving plans for retirement.
The plan mostly focuses on reshaping important provisions like reducing local and state taxes and also on lowering the number of tax rates. According to the Trump administration and Republican congressional leaders, the tax break for 401(k) retirement accounts may get transformed.
In a traditional 401(k), an employer provides contributions for retirement savings by deducting a portion of employee’s pay check before taxation. In 2017, the rules for 401(k) allow a person to save up to $18,000—and $24,000 for over 50 years of age—in pre-tax dollars. These contributions are invested in exchange-traded funds and mutual funds offered by the person’s plan. Also, the person’s savings grow free of tax.
Until the person withdraws money out of his account at the time of his retirement, the person does not have to pay to the American government. The withdrawal at the time of retirement is taxed as ordinary income. Although, the tax plan does not mention anything about 401(k), a proposal from 2014 states that at least a share of 401(k) contributions would be taxed in advance.
Just like the savings that are directed into Roth IRAs, more 401(k) money would be taxed. The person would put in dollars after tax, and then withdraw money without any tax during retirement. A Roth 401(k) already functions this way, and it has gained momentum.
According to the congressional Joint Committee on Taxation, these plans cost almost $83 billion to the US government; this accounts to one of the largest federal tax breaks. In order to offset tax cuts in other places, it is important to pay taxes sooner than later; this would ensure that there is an increase in the near-term revenue.
The Committee for a Responsible Federal Budget, along with Charles Schwab, Mobil and Microsoft, has actively criticized the 401(k) tax shift and termed it a “budget gimmick.” According to Jack Towarnicky, the Plan Sponsor Council of America’s executive director, such proposals would negatively affect about 100 million American employees who utilised a 401(k) plan.
According to a survey conducted by Employee Benefit Research Institute, only 18 percent of workers in the US think that they will have enough money to comfortably last them through their retirement. America, anyway, is facing the challenge of getting people to save for their retirement. Such tax changes would only make these challenges more difficult to achieve.