In this episode of Adam Talks, IRA Financial’s Adam Bergman Esq. discusses possible changes the Biden administration may impose on your 401(k) plan when the new president takes office.
The Biden administration has been officially sworn in and we now have a Democratically-controlled Senate, House and of course, president. Obviously, when our government goes from red to blue (or vice versa), there will be changes. President Biden has already signed numerous executive orders reversing the last president’s policies. In this episode, Mr. Bergman will focus on what changes we may see regarding 401(k) plans. It’s important to keep in mind, that the changes explained in this video are directly from President Biden’s plans, and we offer no opinion on them. Mr. Bergman is simply here to discuss the possible changes from the Biden administration and how it may affect you.
Retirement accounts have been and will continue to be bipartisan. The system generally works for all. Yes, the more money you have, the more you can save. But, so long as you are putting something away for the future, the power of tax-deferral and compounding interest works the same no matter your sex, race or politics. The Biden administration can not change simple math. However, it can make it better for lower and middle income families.
401(k) changes probably won’t happen within the first year of the new president. The COVID-19 pandemic is at the forefront, which must be Biden’s priority. But of course, he also has his own tax plan he would like to pass. Later down the line, we could see one significant change for 401(k) savers. The elimination of the tax deduction on your contributions.
As you probably know, any contributions made to a traditional, or pretax, 401(k) are tax deductible. This assumes you are not over the income limits for getting said deduction. However, those in the 12% tax bracket are not seeing the same deduction as those in the 24% or higher brackets. The Biden administration wants to change this to encourage more people to save. In his possible proposal, he wants to eliminate that deduction and instead move to a flat credit to all savers. The numbers vary from 24% to 28%, but likely on the higher end of that range. Therefore, it will no longer matter how much income you have, you will get this flat credit
Related: Tax Free vs Tax Deferred.
Pros and Cons
Obviously, the major drawback to this plan are for high income earners. Using the 2020 tax brackets, anyone who earns over $163,300 annually, will lose out on the tax break. Further, Biden will almost certainly raise taxes on especially-high earners. Those would lose out even more with this 401(k) system. It’s a fair point, but low-income workers will not lose sleep because the rich might lose out on more tax breaks.
On the opposite end of the spectrum are the low- and middle-class workers, who make up the majority of the country. The majority are in the 24% tax bracket and under. This plans looks to incentivize this group to save for retirement. The bigger the savings, the more people will look to save.
The majority of lower income people that Mr. Bergman has talked to understand the idea for saving for retirement. However, that doesn’t mean they can actually afford to do so. Obviously, every bit you save helps, but putting away $100 a month or so will not lead to a comfortable retirement when you want to stop working. People are working longer because they just can’t afford to stop.
The idea from Biden is pretty solid, but Adam just does not think it will move the needle for those low income Americans. For sure, if you are in the middle class, this might encourage you to save more. But the thing is, these people are already saving for retirement. We need more Americans to save and this may or may not help.
Lastly, higher income earners may switch to Roth savings. If the tax deduction is not as great, they will eat the taxes by contributing after-tax funds to their retirement plan. Then, all distributions during retirement will be tax free in a Roth IRA or 401(k). This will lead to millions and millions of tax-free dollars for the rich. Yes, the IRS got its cut sooner, but not as much as it could receive if the taxes were deferred.
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