401(k) changes 'shot down' by Trump were 'juicy target' for GOP tax-writers

GOP tax writers are "scrambling to find new revenue sources" to pay for tax cuts, as chicagotribune.com reports, which explains why limiting tax-deferred 401(k) retirement plan contributions was such a "juicy target" before the idea was "shot down" by the president on Monday.

According to the Tribune, the tax deferral for 401(k) accounts "cost the government $82.7 billion in lost revenue in the recent budget year ending Sept. 30, 2016 – a potentially juicy target for Republican tax-cutters."

Reports circulating over the weekend that House Republican tax-writers were "considering a plan to sharply reduce the amount of income American workers can save in tax-deferred retirement accounts" led President Trump to tweet that "[t]here will be NO change to your 401(k)."  The president added, "This has always been a great and popular middle class tax break that works, and it stays!"

Tax-deferred 401(k) contributions, which are "shielded" from taxes "on the front end" but taxed "on the back end when the money is withdrawn," would have been reduced from a limit of $18,000 "for most workers" to $2,400, according to news reports.  The alternative for taxpayers would likely have been to "switch to Roth IRAs, which are taxed on the front end but are shielded from taxes on the back end when the money is withdrawn," as nypost.com relates.

There is more than $5 trillion in 401(k) assets held by 55 million Americans, in a program that began some 35 years ago.  As Chris Farrell at forbes.com has observed, it would be hard for tax legislators "on a hunt for revenue" to "ignore the nearly $584 billion in estimated lost tax revenue from defined contribution plans like 401(k)s over the 2016 to 2020 time frame."

The 401(k) "trial balloon" that "crashed" Monday follows a proposal to eliminate the deduction for state and local income taxes that "has run into heavy opposition from GOP House members from high-tax states, threatening the enactment of tax legislation," the Tribune observes.

The budget passed by the Senate last week and up for a House vote this week "only allows a tax bill to add up to $1.5 trillion to the deficit over a decade," as thehill.com reports, and the Republican tax-writers have a long way to go to fit the net tax cut into that budget.

An analysis by Tony Nitti at forbes.com looks at how the tax-writers can potentially fit an initial estimate of $2.5 trillion in tax cuts into that $1.5-trillion budget.  To begin with, the GOP had been counting in the initial estimate on $1.3 trillion in additional tax revenue (over ten years) from eliminating the deduction for state and local income taxes.  If that deduction remains, then the GOP is $2.3 trillion over the $1.5-billion budget limit for tax cuts.

Mr. Nitti suggests a six-point plan to close the "$2.3 trillion gap":

  • "Cap," rather than repeal, the deduction for state and local income taxes, which Nitti figures would save $800 billion of the original $1.3 trillion for the deduction.
  • "Don't eliminate the estate tax," which would save $240 billion.
  • "Add a fourth tax bracket" for high earners, saving another $500 billion.
  • Citing several complications of the proposed "25% rate" on pass-through "business income," Nitti figures eliminating that would yield a savings of $760 billion.
  • "Enhance the Child Tax Credit," at a cost of $250 billion, offset by increasing the proposed corporate tax rate from 20% to 22.5%, at a cost of $250 billion.

All of that magically adds up to "bridge the $2.3 trillion gap between the current $3.8 trillion in tax cuts contained in [the GOP] plan" (assuming that the deduction for state and local income taxes remains) and "the $1.5 trillion of cuts permitted by the Senate budget."

The forbes.com analysis is very broad-brush and makes a lot of assumptions along the way, but the magnitude of the numbers involved shows what Republican tax-writers are up against.  The GOP has to shoehorn the tax cuts into the budget in order to pass the tax bill with 51 votes under reconciliation rules, which explains why a projected savings of at least $83 billion annually from cutting back the 401(k) tax deferral is so tempting to the tax-writers.

Dan McLaughlin, writing at nationalreview.com last month, says removing the tax deferral aspect of 401(k) contributions "discourages self-reliance" for retirement savings and would "unsettle plans made in reliance on the existing code by lots of people" – not to mention that it would be a significant tax increase on hardworking Americans saving for retirement.

Fortunately, the president shot down the idea before the Democrats could take it to the political bank.

GOP tax writers are "scrambling to find new revenue sources" to pay for tax cuts, as chicagotribune.com reports, which explains why limiting tax-deferred 401(k) retirement plan contributions was such a "juicy target" before the idea was "shot down" by the president on Monday.

According to the Tribune, the tax deferral for 401(k) accounts "cost the government $82.7 billion in lost revenue in the recent budget year ending Sept. 30, 2016 – a potentially juicy target for Republican tax-cutters."

Reports circulating over the weekend that House Republican tax-writers were "considering a plan to sharply reduce the amount of income American workers can save in tax-deferred retirement accounts" led President Trump to tweet that "[t]here will be NO change to your 401(k)."  The president added, "This has always been a great and popular middle class tax break that works, and it stays!"

Tax-deferred 401(k) contributions, which are "shielded" from taxes "on the front end" but taxed "on the back end when the money is withdrawn," would have been reduced from a limit of $18,000 "for most workers" to $2,400, according to news reports.  The alternative for taxpayers would likely have been to "switch to Roth IRAs, which are taxed on the front end but are shielded from taxes on the back end when the money is withdrawn," as nypost.com relates.

There is more than $5 trillion in 401(k) assets held by 55 million Americans, in a program that began some 35 years ago.  As Chris Farrell at forbes.com has observed, it would be hard for tax legislators "on a hunt for revenue" to "ignore the nearly $584 billion in estimated lost tax revenue from defined contribution plans like 401(k)s over the 2016 to 2020 time frame."

The 401(k) "trial balloon" that "crashed" Monday follows a proposal to eliminate the deduction for state and local income taxes that "has run into heavy opposition from GOP House members from high-tax states, threatening the enactment of tax legislation," the Tribune observes.

The budget passed by the Senate last week and up for a House vote this week "only allows a tax bill to add up to $1.5 trillion to the deficit over a decade," as thehill.com reports, and the Republican tax-writers have a long way to go to fit the net tax cut into that budget.

An analysis by Tony Nitti at forbes.com looks at how the tax-writers can potentially fit an initial estimate of $2.5 trillion in tax cuts into that $1.5-trillion budget.  To begin with, the GOP had been counting in the initial estimate on $1.3 trillion in additional tax revenue (over ten years) from eliminating the deduction for state and local income taxes.  If that deduction remains, then the GOP is $2.3 trillion over the $1.5-billion budget limit for tax cuts.

Mr. Nitti suggests a six-point plan to close the "$2.3 trillion gap":

  • "Cap," rather than repeal, the deduction for state and local income taxes, which Nitti figures would save $800 billion of the original $1.3 trillion for the deduction.
  • "Don't eliminate the estate tax," which would save $240 billion.
  • "Add a fourth tax bracket" for high earners, saving another $500 billion.
  • Citing several complications of the proposed "25% rate" on pass-through "business income," Nitti figures eliminating that would yield a savings of $760 billion.
  • "Enhance the Child Tax Credit," at a cost of $250 billion, offset by increasing the proposed corporate tax rate from 20% to 22.5%, at a cost of $250 billion.

All of that magically adds up to "bridge the $2.3 trillion gap between the current $3.8 trillion in tax cuts contained in [the GOP] plan" (assuming that the deduction for state and local income taxes remains) and "the $1.5 trillion of cuts permitted by the Senate budget."

The forbes.com analysis is very broad-brush and makes a lot of assumptions along the way, but the magnitude of the numbers involved shows what Republican tax-writers are up against.  The GOP has to shoehorn the tax cuts into the budget in order to pass the tax bill with 51 votes under reconciliation rules, which explains why a projected savings of at least $83 billion annually from cutting back the 401(k) tax deferral is so tempting to the tax-writers.

Dan McLaughlin, writing at nationalreview.com last month, says removing the tax deferral aspect of 401(k) contributions "discourages self-reliance" for retirement savings and would "unsettle plans made in reliance on the existing code by lots of people" – not to mention that it would be a significant tax increase on hardworking Americans saving for retirement.

Fortunately, the president shot down the idea before the Democrats could take it to the political bank.