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The Politics of 401(k)’s

October 14, 2008

The winds of political populism are never far from the surface of American politics. They can come from the right (Huckabee) or the left (Edwards). I believe they will increase in the coming years. My immediate concern is that, in a country that does little to create incentives to save, populist politicians could easily make the problem worse.

To the extent that Americans do save they often do so through employer-sponsored retirement plans, 401(k)’s and other tax shelters similar to these vehicles. These plans are a huge political target, and would be easy to exploit in order to foment class warfare and generate some extra revenue for the Treasury.  To the aspiring populist politician I offer the following language that you can use at your next campaign stop in Toledo.

My fellow Americans, our country is facing many problems. We desperately need to make strategic investments in energy, in education, in health care [short dramatic pause] to make sure the American worker remains the most competitive and productive in world. We owe it to our children to make sure we stand up to the tough decisions now so that they aren’t faced with insurmountable problems later.

My friends, some Americans have benefited more from the gifts of this country than others. Some are able to retire comfortably at an early age because they worked for large corporations and had access to generous retirement plans. We gave them a break when they put money in these plans, they did not pay taxes on it, and they are now living better off than many of us.  Fairness dictates that those who benefited from this loophole in the tax system pay their fair share.

Today I am proposing that anyone who has accumulated more than one million dollars in a 401(k) plan be subject to a one time 10% windfall retirement tax on that money.  They have benefited from the system. Now it is time for them to support the country that allowed them to accumulate this wealth.  To the 95% of Americans who don’t have this much money in these tax loophole accounts I will never propose additional taxes on your money. You will need that to secure your own retirement.

Not only do I think the kind of language I’ve written above is plausible in coming years, I think it is likely.

How do we avert this? Perhaps we cannot. But getting more people involved in tax-deferred savings plans would help. The more people you have involved, the more obvious it is to a broader cross-section of the electorate that any type of windfall tax on this money would be unfair. Expanding access to small businesses would move us in the right direction, as would the ability to divert tax refunds directly into tax-deferred savings accounts. Mr. Obama’s recent proposal (yesterday) to allow tax-penalty-free withdraws from these accounts would not help. Not only would it encourage people to draw down their retirement savings, it would make that money seem less like retirement savings and more like ordinary income. To the extent that the public views it as ordinary income it makes it far psychologically easier to believe taxing these “rich” people is fair. Even the threat of this kind of populist-inspired taxation is a serious disincentive to savings.

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6 comments

  1. 401k programs are not saving, they are investing. If you want to talk about a tax-deferred or tax-exempt saving program, that’s one thing, but most “retirement” packages are just money thrown at the market with the hope that “the market always goes up” promising big money at retirement.

    Saving is literally not spending. Giving money to investment vehicles is not saving. Until saving itself is encouraged (not playing the market with your retirement funds), these programs may as well be taxed like any other market fund, including capital gains and income tax.


  2. Oh, and it looks like Pelosi is already making noises about taxing 401k accounts:

    http://market-ticker.denninger.net/archives/2008/10/14.html


  3. Dear Sir:
    Please tell the American public the true cause of this global investment crisis. It was solely the product of our Congress trying to Social Engineer the investment system. The Neighborhood Reinvestment Act combined with Congress pressuring Fannie and Freddie to form new types of mortgages caused the problem, but no one is telling the story.
    Doug Taylor


  4. Tesh / Ron,

    I would agree with Ron that 401ks are saving as they are funded either by the individual not receiving income as salary, or the company putting aside money on behalf on the individual. Either way, this is deferment of income and consumption which I presume meets the definition of saving. And Tesh, these accounts are eventually taxed when people withdraw from them at retirement.

    In any case, when governments go looking for ways to fund wars, social programs, etc. it seems to me they will look to where there is money… and retirement plans are definitely one major source. Since it would be on money that isn’t going to pay current bills, it isn’t like an income tax, gas tax, etc. where people would feel it *now*. Having more people investing in 401k programs might help, but so long as it is sold as “only 5% of people would be affected”, it will be hard to stop. Hopefully, the 10% (or whatever tax is passed) will be able to be used to offset future taxes when withdrawal begins. I expect we’ll see this in the next two years as an innovative way not to raise income or gas taxes.

    If they passed something like this, I’m guessing it would be good for another 1000-2000 point drop in the Dow and I, for one, would think twice about deferring my salary anymore.


  5. Wonderful blog. Sadly, it is a disincentive for government to encourage people to save (or invest) in a 401k, since it means government gives up tax revenue as more people defer portions of their income. I am a young (31) professional who saves/invests 40% of his income. I live far below my means. Yet I am scared to death that, as I approach retirement, Uncle Sam will apply a disproportionate tax on me in order to cover out of control entitlement programs. I am all for paying my fair share, but this is yet another disincentive to play by the rules.


  6. Stu, yes, 401ks are potential deferred income, but look at where that money is going. That’s why I say it’s not saving; it’s going to the markets where there is no guarantee that the money will be there to access later. That’s the key. If a 401k went to a FDIC insured savings account, then you could more legitimately call it “saving”, but putting it on the investment market is not saving.



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