President Obama on Wednesday announced a plan that would prohibit individuals from reaping tax advantages on IRAs and other tax-preferred retirement accounts when funds exceed a certain threshold.
By proposing this cap as part of his 2014 budget, Obama is taking aim at those who stash many millions of dollars in tax-advantaged retirement accounts -- which he argues is more than enough to retire comfortably.
The limit would be based on the amount needed to finance an annuity of $205,000 per year in retirement. It would fluctuate based on inflation and interest rates, but this year's account balance cap would amount to $3.4 million for a 62-year-old and $3 million for a 65-year-old.
Removing the tax advantages for funds exceeding that threshold would save the government an estimated $9 billion over a decade, the budget estimates.
"[The administration] wants people to use [tax-preferred retirement accounts] to save for retirement, but people shouldn't be saving gazillions in there and the government doesn't want to subsidize that," said Roberton Williams, a senior fellow at the Tax Policy Center.
Balances would be reviewed at the end of the calendar year, and no additional contributions would be permitted if a balance exceeds the limit, according to the Treasury Department. Those who exceed the account limit would be given a grace period to remove the excess money, and tax would apply. If an account drops below the limit, contributions could continue.
"It will be tough to implement," said IRA specialist Ed Slott. "You could be over [the limit] and couldn't contribute anymore but then go under and would have lost all those gains -- it's a little nutty."
It also hasn't been confirmed whether Roth IRAs, which are typically not taxed when retirees withdraw funds, would be included in the cap, said Nevin Adams, director of education at the Employee Benefit Research Institute.
But even if all the details are worked out, the limit would likely apply to very few people.
At the end of 2011, only 0.03%, or 6,180, of the 20.6 million IRA accounts in EBRI's database had balances exceeding $3 million, while 0.0041% of 401(k) accounts held $3 million or more by the end of 2012. If the cap is lower in future years, however, more people would likely take a hit.
In addition to defined contribution plans like 401(k)s and IRAs, defined benefit plans like pensions would also be subject to the cap. EBRI plans to release new analysis calculating the number of these accounts that exceed $3 million.