(The opinions expressed here are those of the author, a columnist for Reuters.)
By Mark Miller
Carrot or stick?
Both approaches have advocates when it comes to a critical retirement security goal: getting more workers at small businesses to save for retirement.
The carrot strategy calls for making it easier for small employers to offer 401(k) accounts to workers by reducing cost and administrative burden. The stick is a possible requirement that small employers who do not offer their own plans allow workers to contribute to government-sponsored Individual Retirement Accounts (IRAs).
A growing number of states have been tackling the small-business coverage problem by creating these auto-IRA plans - and the stick is rather small.
In most cases, employers above a certain size are required to set up automatic payroll deduction for workers. Employers are not required to make matching contributions or to administer the plans.
But President Donald Trump announced his support recently for the carrot - a concept known as open multiple-employer plans, or MEPs. Trump signed an executive order late last month directing the government to consider ways to liberalize rules governing these retirement plans, which already enjoy bipartisan backing in Congress and strong support from the financial services industry.
The executive order also directs the U.S. Department of Treasury to review the formulas to determine how much retirees must withdraw from tax-deferred accounts annually, with an eye toward letting them keep more of their savings longer.
What exactly constitutes a “small business” varies depending on industry and other factors, with some definitions capping the number of employees at 1,500 and others at just 10.
So what is an open MEP, and why might we need them?
Data shows that workers at small businesses are far less likely to be offered a 401(k) plan than their counterparts at larger companies. Just 28 percent of U.S. firms with fewer than 10 employees offered workers a plan in 2012, according to research by the Social Security Administration. The coverage numbers were higher for companies with 25 to 49 workers (63 percent) and those with 50-99 workers (73 percent). By comparison, 87 percent of firms with 100 or more workers offered their workers a 401(k) plan.
At present, MEPs can be offered only to companies in the same industry or profession; the executive order directs the U.S. Department of Labor and the U.S. Treasury to issue new rules making it easier for small businesses from diverse industries to join open MEPs.
The open-MEP idea has been gaining bipartisan support in Congress - it is a key component of the proposed Retirement Enhancement and Savings Act (RESA).
“Basically, we will be trying to find policy ideas that will help make joining a 401(k) plan a more attractive proposition for small employers, to the ultimate benefit to their employees,” Preston Rutledge, assistant secretary of labor for the Employee Benefits Security Administration, told reporters on a recent conference call.
Major business organizations representing the financial services industry have been pushing open MEPs aggressively, in part as the alternative approach to the state-sponsored plans, which they view as inferior to the 401(k) plans they operate for employers. And the Trump administration backed them up. Last year, it successfully promoted legislation that reversed an earlier Labor Department rule that established guidelines for state and local governments to set up the plans.
Carrot and stick both have their place in boosting the availability of retirement plans at small firms, argues John Scott, director of retirement savings at the Pew Charitable Trusts. “These are complementary ideas,” he said in an interview. He views the state auto IRA plans as good starter accounts for workers. Oregon was the first out the gate with a plan and eight other states - including California and Illinois - are getting ready to launch.
The plans enroll workers by default unless they opt out. Initial contribution levels range from 3 to 5 percent, with contributions invested in low-cost target date funds. But they lack some of the most attractive features offered by large employers’ plans, such as matching contributions and higher annual contribution limits. This year, you can contribute $5,500 to an IRA ($6,500 if you are age 50 or older), but the contribution limit for employees to 401(k) accounts is $18,500.
TWEAKING REQUIRED DISTRIBUTIONS
The executive order also calls for a review of the formulas used to determine the amount of required minimum distributions (RMDs) from tax-deferred retirement accounts. When you reach age 70-1/2, a certain amount of your tax-deferred savings in IRAs and most 401(k) accounts must be drawn down every year under the RMD rules. And younger people need may need to take RMDs on inherited IRAs.
Missing an RMD leaves you on the hook for an onerous 50 percent tax penalty, plus interest, on the amounts you failed to draw on time. Income taxes must be paid on the withdrawn funds, and RMDs also can trigger additional taxes on Social Security income and even high income Medicare premium surcharges.
The order directs the U.S. Treasury to consider whether the tables should be revised in light of rising longevity (the life expectancy tables were last revised in 2002). Meanwhile, average life expectancy for men aged 70 and above has risen 2.1 years since 2000, and 1.6 years for women, according to the Society of Actuaries. That means any revisions likely would have a very small impact on the amounts retirees must withdraw - no more than a few hundred dollars annually in most cases.
“The RMDs aren’t that big to start with,” said Ed Slott, an author and retirement expert. “Unless you’re talking about a mega-IRA, adjusting the tables for higher longevity won’t shave off even a percentage point in the amount you must take.”
Some proposals for reform of RMDs would go further than reviewing the longevity assumptions. This week, Republicans in the U.S. House of Representatives called for elimination of RMDs from accounts with $50,000 or less as part of a broader set of tax cuts billed as “Tax Reform 2.0”
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