Retirement > 401(k)s & IRAs
Tax help for 401(k)s, IRAs
July 19, 2000: 11:17 a.m. ET

Unlike the estate tax issue, more lawmakers agree on a new retirement bill
By Ed Slott
graphic graphic
NEW YORK (CNNfn) - With all the hoopla about the estate tax bill, a major retirement tax bill has gone relatively unnoticed. What's interesting is that this bill, unlike the estate tax bill, is likely to become law because it includes provisions that pretty much everyone agrees with.

IRAs were established in 1974 with a $1,500 annual contribution limit. In 1981 the annual amount was raised to $2,000 and has not changed since. A new bill in the House Ways and Means Committee would raise the annual IRA contribution limit to $5,000 from $2,000.

graphicBut as usual Congress can never increase or decrease any tax provision without phase-ins.

In tax talk, a phase-in means that we do not receive the full tax break right away. For some reason, Congress cites revenue estimates and said it can only give us gradual tax breaks that are phased-in over several years.

The proposal is to increase the annual IRA contribution limit to $3,000 in 2001, $4,000 in 2002 and finally $5,000 in 2003. Can you imagine the confusion and record keeping during the phase-in period? If Congress is to propose this why can't they simply raise it $5,000 next year and be done with it? In addition, the new limits would be indexed for inflation in $500 increments beginning in 2004.

Read Ed Slott's recent columns on the three most important decisions you'll make with your IRA: Choosing a beneficiary; picking a life expectancy and picking a distribution method.

The bill does not specifically say so, but it appears these increases would also apply to Roth IRAs. We'll know when the final version is released.

For individuals who are 50 years old or over, the annual IRA contribution limit would increase to $5,000 immediately in 2001 with no phase-in. The premise here is that people 50 or and over need to catch up for all the years of lost opportunity when they were limited to only $2,000 per year. This will help those people facing retirement sooner.

There are over 50 different provisions geared towards improving retirement savings. Many of these provisions are those that were included as part of last year's vetoed tax package, the Taxpayer Refund and Relief Act of 1999, and some of the provisions are from the Small Business Tax Relief Act that passed the House on March 9.

Here are the provisions that will affect most of us:

A major provision is to simplify the IRA distribution rules. Can you believe it! The Treasury would be directed to "update, simplify and finalize the regulations relating to the minimum distribution rules." Wow! Can these rules be simplified? This Bill gives a direct order to IRS do so.

Another IRA provision will allow for a five-year rule when the IRA owner dies after his Required Beginning Date.

Ed Slott's column on the estate tax generated more than 100 e-mails from readers.

The RBD is April 1 of the year following the year the IRA owner turns 70 1/2 years old. This will help beneficiaries of those IRA owners that either neglected IRA planning or made poor distribution and beneficiary choices.

The proposal would mean that IRA beneficiaries would no longer be forced to empty an IRA by the end of the year after the year of the IRA owner's death. Under this proposal they would be able to delay that distribution until the end of the fifth year after the year of the IRA owner's death, regardless of when the IRA owner died. Under current law the 5-year rule is only available to an IRA beneficiary when the IRA owner dies before his RBD.

The Bill would reduce the 50 percent penalty for not taking required IRA distributions to 10 percent.

The Bill will allow for portability of retirement assets between plans of different employers. This will help both retirees and job changers move their old company plans to new plans.

Under this proposal 401(k)s, 403(b)s and government 457 plans could be rolled over to each other. IRAs could also be rolled over into these plans. A spouse would be allowed to roll his or her deceased spouse's plan benefits into the his or her plan, similar to an IRA rollover, except this would be a plan to plan rollover from a deceased spouse's plan to the surviving spouse's plan. There is no provision in current law for this. Under current law, your spouse can only roll over to his or her IRA.

Congress also wants to lighten up on the 60-day rollover rule. The proposal would allow IRS to waive the 60-day rule in certain cases such as where there has been a disaster, a casualty or other event beyond the IRA owner's control. Currently the IRS cannot waive this strict 60-day rule.

Another interesting piece in this Bill truly shows that Congress wants to help people address retirement planning. The Bill would allow a company that has a qualified retirement plan to provide retirement planning services to it's employees as a tax-free fringe benefit, similar to health insurance. Companies may soon be hiring firms to help their employees with all sorts of retirement issues.

These tax-free services will be limited though to planning related to the company's retirement plan. Certain related services such as tax preparation, accounting, legal or brokerage services would NOT be a tax-free benefit.

Other highlights without going into detail include provisions to:

  • Simplify pension plans for small businesses.

  • Provide Catch-up provisions for 401(k) plans.

  • Increase the annual contribution limit on 401(k) and other salary deferral type plans to $15,000, but not until 2005. The limit for 2000 is currently $10,500.

  • Raise the limit on certain defined contribution plans to 20% of compensation from 15 percent.

The reason for this legislation is that many of these provisions have not been changed to reflect inflation and the changing times. There are 76 million aging baby boomers that will retire in the next 15 years and studies show that many are not prepared for retirement. Many workers still have no pensions and have to rely on funding their IRAs. The increased IRA contribution limits would help those workers by allowing them to contribute up to $5,000 per year.

The purpose of all of this legislation is to help prepare workers for retirement and encourage retirement savings through tax incentives. Let's see how many of these good ideas can get through Congress and to the president's desk for signature. It is likely that this bill will become law since most in Congress have no clue what's in the bill other than the increase in the annual IRA contribution amount to $5,000, which everyone seems to agree is good.

But to be fair to Congress, many of the individual provisions in the bill are technical in nature. They are actuarial and plan design items related to improving company plans. Generally the bill contains all good provisions that will hopefully simplify and encourage retirement savings. Back to top


Slott: Giving away your IRA

Slott: A 401(k) rollover vs. a transfer


Read more from Ed Slott's Web site

Note: Pages will open in a new browser window
External sites are not endorsed by CNNmoney