A new report by the Congressional Budget Office showing that tax incentives for retirement savings and lower tax rates for investments mostly benefit the wealthy may become fodder for lawmakers in the debate over comprehensive tax reform.
“For those who want to stick it to the rich, this gives them specific things to target,” said Tim Steffen, senior vice president and director of financial planning at Robert W. Baird & Co. Inc.
The
CBO report, released yesterday, shows that the retirement savings tax breaks are the third-highest annual tax expenditure, costing the U.S. Treasury $137 billion in fiscal year 2013. The term “tax expenditures” refers to tax exclusions, deductions, preferential rates and credits.
The lower rate for capital gains and dividends — which are taxed at 20% for high-income earners — will cost $161 billion, according to the CBO. The biggest tax expenditure is the exclusion of employer-provided benefits, totaling $248 billion. The top 10 expenditures will cost about $900 billion in the current fiscal year.
The report also shows that the benefits of the tax breaks are skewed toward those in high tax brackets. A two-person household with an income of $115,100 — the highest quintile — receives 66% of the benefit of the retirement savings incentives. More than 90% of the benefit of reduced investment taxation accrues to the same group.
Although the fact that the tax breaks help the wealthy is not a revelation, the bipartisan CBO report could be a political boon to Democrats, according to Clint Stretch, senior tax policy counsel at Tax Analysts.
“They can use it as a hammer to beat on these issues,” Mr. Stretch said. “If Democrats write a tax reform bill, it will target high-income people.”
The report also highlights the challenge facing Republicans, who want to reduce tax rates across the board.
“If they're going to lower the top rate, how are they going to pay for that out of the same pool of people?” Mr. Stretch said. “There aren't many choices. You're going to have to look at retirement savings incentives and capital gains preferences.”
Pamela Sandy, chief executive of Confiance LLC, would rather jettison the mortgage interest deduction — which comes in fifth on the list of tax expenditures at $70 billion for fiscal 2013 — than retirement tax breaks.
“I don't think we should remove any incentive for people to contribute to retirement plans,” she said.
Like other observers, Ms. Sandy was not surprised that the report showed that the wealthy benefit most from the tax breaks.
“Most people in the middle cannot max out these plans,” she said. “There's not that disposable level of income to do that.”
The Insured Retirement Institute argues that the middle class benefits from retirement savings incentives. A recent report by the group shows that eight in 10 annuity owners have household income of less than $100,000 and 64% have less than $75,000.
In talking to members of Congress, the IRI and other retirement advocates stress that the tax incentives are deferrals, not exclusions. Retirees will pay the full tax on the money they put into their plans when they start to draw them down in their golden years.
They also assert that the incentives motivate people to save for retirement.
“All of these messages are received on Capitol Hill very, very positively,” said Lee Covington, the IRI's senior vice president and general counsel. “We're going to remain vigilant throughout [the tax reform] process.”
