For months now, Washington has been buzzing with speculation that Republicans would try to pay for their tax cut plan in part by mucking around with Americans’ retirement accounts. Most recently, members of the House have been contemplating a plan that would lower the cap on annual 401(k) contributions to a measly $2,400 a year—an idea so self-evidently toxic among upper-middle-class savers that President Trump attempted to snuff it out on Tuesday, via tweet.
Had it flown from the fingers of any other president, such a message might have killed the 401(k) conversation for good. But because Trump’s promises tend to be ephemeral, Republicans are still treating the idea as very much alive. Rep. Kevin Brady, who chairs the House committee in charge of writing tax legislation, told a breakfast group that congressional Republicans were still “working very closely with the president” on the subject and that “we think in tax reform we can create incentives for people to save more and save sooner.” Senate Finance Committee Chairman Orrin Hatch also said he was willing to “look at anything”—including lowering the 401(k) cap.
Whether or not the move is really devastating to middle-class savers, it will almost certainly tick them off. Today, workers have a choice when it comes to how they want to build a nest egg. They can save pre-tax dollars in a traditional 401(k), paying the IRS only when they withdraw money during retirement. Or they can save post-tax dollars in a Roth account, drawing from their investments tax free when they’re living out their final years in Florida seniors community.
If you expect to pay the same tax rate for your entire life, it doesn’t matter much whether you pick a traditional 401(k) or Roth; the government will take its cut eventually, and your savings will come out the same. But on paper at least, a traditional 401(k) is a better deal for people who expect to pay a lower tax rate during their retirement. This describes an awfully large number of Americans, since people’s incomes tend to drop when they’re no longer working full time and are living off savings. If Republicans force them to use a Roth instead, savers will lose some of the tax advantages they enjoy today.
That’s not going to sit well with the millions of people in this country who already think of retirement as a borderline unattainable fantasy. As a matter of public policy, relying on tax-advantaged savings accounts that disproportionately benefit high-earners to help workers save enough for old age has turned out to be a mammoth public policy mistake—one that’s left an entire generation financially vulnerable heading into their golden years. But curtailing 401(k)s doesn’t seem likely to help the retirement crisis we’ve created. The best one can say about it is that, according to some recent research, Roth-style accounts might help workers by effectively tricking them into saving more once taxes are taken into consideration. But that seems unlikely to comfort anybody who’s ever gazed despondently at a Fidelity account.
And speaking of Fidelity: Crushing the 401(k) isn’t just going to enrage voters. It’s also going to anger the financial services industry, which has already been gearing up opposition. Mutual funds earn fees based on how much money they manage. If Americans start saving more for retirement post-tax, that will likely lead to fewer dollars sloshing around Vanguard and BlackRock funds, cutting into their profits. This may in fact be the main benefit of the policy—as University of Chicago law professor Daniel Hemel shows with some nifty arithmetic, moving to Roth accounts could theoretically let Americans save the same amount of money for retirement, after taxes, while giving a smaller cut to Wall Street. That would probably be socially useful, but another political strike against the idea.
Economists and fiscal hawks also tend to frown on the idea of paying for tax cuts by curtailing 401(k)s, because they see it as a budget gimmick. It raises money in the short term by forcing people to pay taxes on their retirement savings today. But it loses money in the future by letting people withdraw savings tax free later. The move doesn’t so much increase revenues as move them forward.
Some wonks have even wondered whether this undermines the entire rationale for lowering the 401(k) cap. Under the Senate’s reconciliation process, which Republicans are relying on to bypass Democratic filibuster, bills aren’t allowed to raise the deficit outside of Congress’s budget window. If wringing money from retirement savers today raises the deficit tomorrow, it might violate those rules, making the entire gesture useless even as a mere accounting gimmick.
All of which makes the GOP’s determination to stick with this idea kind of odd. The president hates it. Lobbyists hate it. Savers will hate it. And the move might not actually help them pass their bill. It smacks of desperation—a party that’s out of ideas.