The Individual Retirement Account, or IRA, has been one of the great policy successes of the past half-century. Introduced in 1974 as a backstop for workers whose employer-based retirement plans were vaporizing in a terrible economy, IRAs are now held by more than one-fourth of U.S. households. Assets total $12 trillion, more than half the nation’s GDP.
IRAs offer a tax break to encourage savings, which in turn provide capital for businesses to start and grow, adding to employment and prosperity. The IRA is a bipartisan program that’s worked.
But now, in a short-sighted and dangerous attempt to find revenues to help finance a multi-trillion dollar social welfare and climate mitigation package, some Democrats want to dismantle IRAs as we know them. Their plans to slap severe restrictions on retirement plans were passed by the House Ways and Means Committee in September and became part of Build Back Better legislation. As Congress continues debating whether these provisions will remain in the final bill or be stripped – it is important to consider negotiations are ongoing and nothing is locked in stone, yet.
Politicians are capitalizing on headlines about “massive IRAs of the superwealthy” – with emphasis on a single person whose investing acumen turned $1,700 into $5 billion.
But it’s the entire program that is subject to attack. With a traditional IRA, workers get a tax deduction when they make a contribution, and the value of assets – for example, stocks and bonds – accumulates tax-free until funds are withdrawn, starting at age 59 ½. With a Roth IRA, named for a Delaware Senator, there’s no tax deduction up-front — but no tax liability when funds are withdrawn later.
Starting in 2008, a holder of a traditional IRAs could roll investments into a Roth, incurring immediate taxes. Because people expect higher tax rates in the future, these conversions became popular, quintupling the overall value of Roth IRAs in a decade.
This entire pile of money – the savings of private citizens, remember — has become so large that politicians can’t resist it. In the past, Washington was content to limit the contributions to IRAs by income. Now, Democrats are going after the assets themselves.
The catalyst was revelations about Peter Thiel, one of the top entrepreneurs in recent history. Co-founder of PayPal and the big-data company Palantir, a philanthropist, and, notably, one of the few California tech grandees to support Donald Trump, Thiel in 1999 used his Roth IRA to buy shares of PayPal before the company went public. His small investment became $4 million within a year, according to a report in June by the Pro Publica, which secured confidential IRS files.
Thiel then wisely invested his Roth IRA funds. According to Forbes, he was the first large investor in Facebook, whose stock has risen 400-fold since 2006, and had big winners in Airbnb and Affirm Holdings.
Because his investments are in a Roth IRA, Thiel, who is 54, can withdraw them in five and a half years without paying taxes. Pro Publica found a few other wealthy Americans with IRAs, but the richest account was just 5% of Thiel’s. Overall, about 3,500 taxpayers have traditional and Roth IRA accounts with assets of at least $10 million. The total is just 1% of all IRA assets.
Rather than a crisis demanding a drastic solution, the flow of money into IRAs from Americans, wealthy or not, is a boon to the economy. In a report in 1997, when Congress was considering IRA expansion, the Joint Economic Committee concluded that the program contributes to a “high national saving rate [which] allows long-term interest rates to fall, creating an environment conducive to economic growth. It also reduces investors’ reliance on foreign capital.”
Instead of encouraging more IRA investment, the proposed legislation does the opposite. The most egregious measure would require Roth and traditional IRA investors to take mandatory annual distributions of 50% of the value of their accounts exceeding $10 million, providing a sudden windfall to the Treasury.
The bill would also prohibit Roth conversions for taxpayers making more than $400,000 a year. Americans at this income level would also be barred from making any additional contributions to IRA or Roth accounts that exceeded $10 million in assets.
The overall message from these proposed IRA changes is, “stop saving!” Other rules – clearly aimed at future Peter Thiels — restrict IRA investing by entrepreneurs in stock that isn’t yet traded on major exchanges. The message here is, “stop innovating!”
In 2008, the Argentine government, strapped for cash, nationalized the country’s private, IRA-like pension system and used the proceeds as a political piggy bank by the country’s president.
No, the U.S. is not Argentina. But if policy makers are willing to disrupt a bipartisan program that has been providing secure savings and trillions in investment capital for a half-century, it’s not hard to imagine worse things in store.
James K. Glassman, Founding Executive Director of the George W. Bush Institute, served as Under Secretary of State for Public Diplomacy and Public Affairs.