Tuesday, March 29, 2011

The Twilight Years of the 401(k) and Roth IRA

I've suspected for a while that the federal government will eventually start taxing contributions to 401(k)s, withdrawals from Roth IRAs, and capital gains and dividends in both. In other words, there won't be any more tax benefits to our retirement accounts, and therefore there won't be any reason to have retirement accounts in the first place.

Today I no longer just suspect that 401(k)s and Roth IRAs are doomed - I'm convinced of it. I'm convinced because of the gradual implosion of underfunded pension programs that are leading to riots at state capitals. Sure, public employees will continue to fight against the budget cuts, but they are ultimately doomed because they can't fight the simple math that says there won't be any money left to pay for their retirement. When they eventually lose, they're going to turn their rage on those of us who never had pensions, but who have instead been building our nest eggs in retirement accounts. It doesn't matter that the public pensions rely on yearly payments from cash-strapped taxpayers while private retirement accounts are funded entirely by decades of saving - it will become an issue of "fairness", because "it's not fair that we have to lose our pensions while they get to keep their retirement accounts."

And that will be that.

7 comments:

The Western Chauvinist said...

Hmm - What's your opinion of the decision to take out 401k money early and pay off the mortgage? I realize there are bunches of factors in any personal decision, but I guess I'm asking whether it's better to have your money in real assets versus retirement accounts vulnerable to government diddling.

Jody Wilson said...

It's not a crazy idea. The big unknown is the degree of government diddling to come. If they simply eliminate the tax exemptions, that's one thing. If they actually confiscate control of your savings, that's something else entirely.

I know that if/when NASA's funding gets cut and I'm out of a job, it will make sense to pull funds out of my 403(b) at that time because I'll be in a lower tax bracket (zero income!) than I am now. So that makes me want to wait.

Oleg said...

I doubt that 401K funds will go away or lose preferential tax treatment. The entire reason they gained so much momentum was the demise of the defined benefit corporate pension plans. Now that government employees also have to give up this perk, 401K and Roth IRAs would be the only thing government can offer to compensate for the loss. Reducing tax benefits on top of eliminating state pensions would lead even to more riots.

Jody Wilson said...

I really hope you're right, but I fear you're being too optimistic. Besides, for older and retired public employees who haven't been saving, it's too late to start a new 401(k) - there's no compensation to be had.

The Western Chauvinist said...

Got it. When unemployed, there's less of a penalty for early withdrawal under the "hardship" clause... at least for now. It is an odd position to be in -- hoping to be a hardship case before government diddling gets too bad! We live in interesting times...

Jody Wilson said...

We live at the threshold of the United Socialist States of America.

ismellarat said...

TWC, I think he was emphasizing the fact more that his tax bracket would be much lower, making such a (taxable) withdrawal more attractive (and possible - as far as I know, you have to be separated from your employer to be allowed to touch 401(k)s), but you did spark an idea with the "hardship" clause making that additional 10% penalty go away. I'm wondering now, how that could be triggered, and how much I could withdraw... I'd never thought of myself as a hardship case, but maybe I could have some bad luck, maybe punch out the boss, hmm... time to download some pubs at the IRS site...