Arnold Kling  

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Business Insider reports,


The Irish government plans to institute a tax on private pensions to drive jobs growth

I expect our government, too, to punish those of us who try to save for our own retirement. They need the money more than we do.


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CATEGORIES: Fiscal Policy



COMMENTS (17 to date)
David writes:

Actions like this make me very concerned about the security of my retirement accounts, particularly my Roth IRAs.

N. writes:

Yeah, that sound you heard was actually my Roth IRA shouting, "I told you so!"

So where should we put the money instead?

Æternitatis writes:

Just use a regular taxable portfolio.

Compared to the Roth IRA, you give up: the tax deferment on the accrual of taxable returns (i.e., dividends and interest), but if you are worried--not unreasonably--about future confiscatory rates, rather than the current, substantial but bearable, tax rates, then this is may be a price worth paying.

Remember that long-term capital gains tax treatment for the non-immediately taxable returns (i.e., capital gains) which is actually quite lenient and, thanks to the high short- and medium- term elasticity to rates of capital gains, likely to remain so.

On the net that may be close to a wash.

However, taxable portfolio also have other advantages:

(*) You can access the funds at any time without any punitive rates due to early withdrawal etc.

(*) If long-term capital gains rates are, nevertheless, scheduled to go up substantially, you'll have an opportunity to realize your gains immediately at the still lower rates.

If you want to take this a step further, use a brokerage outside the range of the IRS. That is quite legal as long as you continue to pay taxes on your taxable gains for as long as you remain a U.S. person.

But if the U.S. goes Chavez--not the most likely outcome, but given that the U.S. went in twenty years from Reagan to Obama, it is quite possible that over the same period it could go the smaller distance from Obama to Chavez--you can leave the country with your assets outside the reach of the U.S. version of Chavez.

Steve writes:
The Irish government plans to institute a tax... to drive jobs growth

Doublespeak, anyone?

Kevin writes:

This is why I won't put money in IRA, 401(k), 529, or even health savings accounts. I guess actions like this will be necessary to educate the public about the dubiousness of these arrangements.

Old Whig writes:

Yes, it's definitely the future. Sweden at it's Peak of it's crazy 25 years, 1968-1993, 1986 had a gigantic deficit because of extreme Keyenesian spending. The public sector had tripled in size, the Swedish industrial sector was crumbling and therefore the government did massive bailouts ala GM.

The taxes were high more than 60%of GDP and the effective marginal taxation rate was 85 %. It had led to Sweden being the first country to become an empirical example of the Laffer Curve. The growth rate was heavily impacted by the taxes and increases in income taxes led to less revenue.

So what to do to fill the hole? A tax on pension and life insurance capital was passed, some 5 %. It was called "The One Time Tax" and the social democratic government "guaranteed" that it would not happen again, only this once as the fiscal situation was so dire.

So what happened? The tax authorities and the politicians had found the perfect tax base. Enormously large, constant and eternally growing. It can't move or emigrate. So of course a couple of years later they reneged and Sweden passed a annual tax on pension and life insurance funds. Pensions at 15 % of the Swedish FEDs rate and life insurance 27% of said rate. It on average amounts to 0.5%/1% of the capital annually.

The US looks very much like Sweden in the late 80s:

1. Huge underfunded entitlements, an insolvent social security system

2. Massive government interventions and an extreme regulatory bureaucracy

3. A completely out of whack tax code

4. Costly underfunded reforms passed every year

5. Defense spending completely out of control. Some 6-8% of GDP annually

So Welcome to Our Future is a very appropriate header.

Fralupo writes:

I'm not sure why Roth IRAs would be hit harder than regular IRAs if the government decided to tax them. Its not like they're ever going to write a law that just hit Roth IRAs. Instead they'd tax Y% of balances above $X, or something. While that would hurt a lot, it probably won't make paying your income-tax up-front worse than at time of withdrawal.

Shane writes:

The article notes at the end that pensions are being targetted because the government wants to avoid raising the corporation tax.

Ireland is in a difficult position because the former government took on massive bank debts which plunged the country into debt. Now growth is slow and debt is spiralling so the government is desperate to raise tax revenue AND boost the economy - a tricky balance! Its determination to protect the unusually low corporate tax rate has been denounced by the left, but the government wants Ireland to remain attractive to foreign companies. Multinational companies played a major role in the rapid economic growth of the 1990s.

joecushing writes:

Michigan is planning on taxing my dad's pension in an effort to not tax businesses. It's already happening here.

GU writes:
"This is why I won't put money in IRA, 401(k), 529, or even health savings accounts."

Even if you think the gov't will tax the funds in these plans some time in the future, why wouldn't you avail yourself of the deferral benefits now?

Roth IRAs are usually a dumb idea because the immediate taxation decreases the principal in one's account and therefore the results of compounding are less drastic. And even if you expect higher tax rates in the future, you probably won't be in the high brackets at your retirement (and if you're certain you will be, you have lots of other options, just hire a tax lawyer). Of course the chance of gov't taxation of tax-deferred pension plans make Roths an even worse deal, but they were a pretty bad deal to begin with relative to normal IRAs & 401(k)'s.

Yancey Ward writes:

A VAT or GST, or even a future higher income tax regime (or even a special income tax applied to capital gains from retirement accounts), accomplishes the same thing in the long run, but, of course, those taxes hit immediately consumed wages and salaries, too, so are more problematic for politicians. What I think is more likely to happen is that private accounts will be forced to hold long term government bonds in increasing amounts to try to solve the debt problem through inflating away the obligations to captive lenders.

mark writes:

More comprehensively, Reinhardt and Sbrancia 2011 put out an IMF paper in March cataloguing all manner of "financial repression" of this nature.

http://www.imf.org/external/np/seminars/eng/2011/res2/pdf/crbs.pdf

Summarized by Gillian Tett at FT here:

http://www.ft.com/cms/s/0/0af29588-7a5b-11e0-af64-00144feabdc0.html?ftcamp=rss#axzz1M9ZwbzrG

Such repression averages a 3-4% per annum liquidation tax on capital and is correlated with GDP growth the paper says. The term dates back to McKinnon and Shaw (1973).

Fralupo writes:
Roth IRAs are usually a dumb idea because the immediate taxation decreases the principal in one's account and therefore the results of compounding are less drastic. And even if you expect higher tax rates in the future, you probably won't be in the high brackets at your retirement (and if you're certain you will be, you have lots of other options, just hire a tax lawyer). Of course the chance of gov't taxation of tax-deferred pension plans make Roths an even worse deal, but they were a pretty bad deal to begin with relative to normal IRAs & 401(k)'s.

I've heard this a lot, but I've never understood it. If you assume a constant tax rate, then whether you pay X% of PV or X% of FV it shouldn't matter financially (if your personal discount rate is different than your rate of return then it will matter from a utility perspective). The same is true for the tax benefits of the Roth - if they add a tax for IRAs (either in the form of a national sales tax or a withrawl surcharge or a too-large-balance tax) its going to hit your money the same way whether you're pre-tax or post-tax. The only way it does matter is if you assume that the government will punish Roth accounts with their own special tax.

Æternitatis writes:

@GU:

While I would not recommend Roth IRAs either, I do not believe that your statement that "Roth IRAs are usually a dumb idea because the immediate taxation decreases the principal in one's account and therefore the results of compounding are less drastic" is mathematically correct.

Roth IRAs are a good tax-wise if your tax rate in retirement (Y%, let's say) would be higher than your current income tax rate (X%, let's say). That is true statically (i.e., assuming that your retirement income is lower and the tax rate structure stays the same), but not necessarily dynamically (i.e., assuming that even though your retirement income will still likely be lower, rates will have increased more than making up for it).

Compounding (let's call it a factor C between now and retirement) has nothing to do with it.

If you invest M pre-tax dollars in an IRA today, at the end the number of after-tax dollars you'll have are:

(1-Y%)*C*M

If you invest M pre-tax dollars in a Roth IRA today, at the end the number of after-tax dollars you'll have are:

C*(1-X%)*M

So the compounding factor is the same. The only difference is whether your retirement tax rate or your current tax rate are higher.

Christopher writes:

How is a Roth IRA a dumb idea for me?

I've got 4 kids right now who really lower my tax rate. I pay virtually zero fed tax after dependent deductions with a 6 person household. I already max out my 401(k). What benefit would I get for adding to a traditional? None! What benefit do I get for maxing out my Roth in the future? More then a traditional and more then a non-tax deferred vehicle for sure. Doesn't mean that eventually I get to a place where I max out both, and then to a place where I'm not allowed to contribute to either, but that is all tax planning.

A Roth might be dumb for some, but not in general, you've got to look at the situation before spouting off bad advice like that.

Less Antman writes:

There are at least a couple of other tax advantages to a Roth, even if you are NOT in a higher bracket at retirement:

(1) Distributions are not included in the calculation of social security benefit taxation, while the taxable distributions of regular plans are.

(2) Estate taxation is based on the fair market value of the estate at the time of death, which is NOT reduced by the deferred taxation on retirement accounts. This is partially, but not entirely, reversed by the available deduction on taxes on income in respect of a decedent. So for someone with an estate subject to estate taxes, paying the income tax before death by having a Roth is better than having the heirs pay tax at the same rate on beneficiary distributions after death.

One option I've used with some clients is to have them use a regular IRA for tax deduction purposes, then use a low income year (perhaps as a result of voluntary or involuntary mid-career unemployment) to do a Roth conversion. It generally does make more sense to choose the regular IRA in good income years and then do a Roth conversion in bad years.

Okay, okay: TMI and a big tangent. Sorry.

Jeff Hallman writes:

And people wonder why offshore accounts are so popular.

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