Obama’s retirement investment protections explained – WLS

President Obama says he wants greater protections for retirement investing. He unveiled broad strokes of a proposal Monday that would hold financial advisers handling individual to a higher standard than they currently are. The change means financial advisers would be held to a so-called fiduciary standard.

Translation: They would formally have to put the best interests of their clients ahead of their own interests by recommending the best product — even if that means taking a smaller fee for their services. The President acknowledged that many financial advisers already do that, but it wants to extend the standard industry wide.

Cliff Morgan is co-founder of Strategic Wealth, a wealth management firm. He explained some of the president’s proposals.

1. Eliminate the special tax break for NUA
The proposal – Net unrealized appreciation, or NUA, one of the biggest tax breaks in the entire tax code for some retirement account owners, would be eliminated if this proposal were to become law. To be eligible to use the provision, which allows you to pay tax on some of your retirement savings at long-term capital gains rates, you must have appreciated stock of your employer (or former employer) inside your employer (or former employer)-sponsored retirement plan and follow certain rules. Any plan participant 50 or older by the end of this year (2015) would still be eligible for the special NUA tax break, provided they meet all the rules.
Cliff’s Comment – The tax break for NUA has been around for decades and now, it suddenly finds itself under attack. Although those 50 and over would be exempt, younger savers who invested in the stock of their company within their retirement plan would miss out on the tax break.

2. Limit Roth conversions to pretax dollars
The proposal – After-tax money held in your traditional IRA or employer-sponsored retirement plan would no longer be eligible for conversion to a Roth account.
Cliff’s Comment – For years, many taxpayers that have been restricted from making contributions directly to Roth IRAs (because their income exceeded their applicable threshold) have instead, made contributions – often nondeductible (after-tax) – to traditional IRAs. Then, shortly thereafter, they have been converting those contributions to Roth IRAs. This two-step process, would be all but eliminated by this provision.

3. ‘Harmonize’ the RMD rules for Roth IRAs with the RMD rules for other retirement accounts
The proposal – To further “simplify” the RMD rules, the administration seeks to impose required minimum distributions for Roth IRAs in the same way they are imposed for other retirement accounts. In other words, this proposal would require you to take distributions from your Roth IRA once you turn 70 in the same way you would for your traditional IRA and other retirement accounts. If, however, you are already 70 at the end of this year (2015), you would be exempt from the changes that would be created by this proposal.
Cliff’s Comment – This is one of the most egregious proposals in the entire budget. Countless individuals made Roth IRA conversions over the last 17 years, and many of them did so, in part, due to the fact that Roth IRAs have no required minimum distributions. To change the rules now, after people have already made these decisions, would be terribly unfair and would constitute a tremendous breach of the public’s trust. At the very least, the administration should grandfather any existing Roth IRA money into the “old” rules should this provision ever become law.

4. Eliminate RMDs if your total savings in tax-favored retirement accounts is $100,000 or less
The Proposal – If you have $100,000 or less across all your tax-favored retirement accounts, such as IRAs and 401(k)s, then you would be completely exempt from required minimum distributions. Defined benefit pensions paid in some form of a life annuity would be excluded from this calculation. Required minimum distributions would phase in if your total cumulative balance across all retirement accounts is between $100,000 and $110,000. Those amounts would be indexed for inflation.
Cliff’s Comment – There’s really no reason why someone with a $15,000, $20,000 or even $100,000 IRA should be forced to withdraw specified amounts from their retirement account each year. It simply creates complexity without any real benefit. Sure, some will argue that $100,000 amount should be higher, but in the end, a line had to be drawn somewhere. There will always be those on the other side.

5. Create a 28% maximum tax benefit for contributions to retirement accounts
The proposal – The maximum tax benefit (deduction or exclusion) you could receive for making a contribution to a retirement plan, like an IRA or 401(k), would be limited to 28%. Thus, if you are in the 28% ordinary income tax bracket or lower, you would be unaffected by this provision. However, if you are in a higher tax bracket, such as the 33%, 35%, or top 39.6% ordinary income tax bracket, you wouldn’t receive a full tax deduction (exclusion) for amounts contributed or deferred into a retirement plan.
Cliff’s Comment – This one is sure to be another politically divisive aspect of the overall budget proposal. If this provision were to become law, it would create a terrible compliance burden for those in the highest tax brackets with respect to their retirement accounts. According to the Greenbook, if a tax benefit for a contribution to a retirement plan was limited by this proposal, it would create basis within a person’s retirement account.

6. Establish a ‘cap’ on retirement savings prohibiting additional contributions
The proposal – This proposal would prevent you from making any new contributions to any tax-favored retirement accounts once you exceeded an established “cap.” The cap would be calculated by determining the lump-sum payment it would take to produce a joint and 100% survivor annuity of $210,000 a year, beginning when you turn 62. Currently, this would cap retirement savings at approximately $3.4 million. The cap, however, would be a soft cap, as your total tax-favored retirement savings could exceed that amount, but only by way of earnings. Adjustments to account for cost-of-living increases would also apply.

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Saturday, February 28th, 2015 EN

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