One of the most concrete new proposals in President Obama's State of the Union address was the creation of a new type of retirement savings vehicle -- the MyRA. One of the main attractions of the new proposal was that the president believes the program can be set up under current executive authority without further congressional approval. In fact, immediately after the State of the Union address, the president sent an order to the Secretary of the Treasury to initiate the program.
What are MyRAs and are they likely to be any more successful than existing retirement vehicles in encouraging more people, particularly at the lower end of the income scale, to save for retirement?
THE MYRA PROPOSAL
The MyRA appears to be structured as something of a cross between a Roth IRA and a U.S. government bond. The similarity to a government bond appears to derive mainly from the reliance on the Treasury's authority to conduct government bond investment programs as the authority for MyRAs. The similarity to the Roth IRA is that contributions to MyRAs would be after tax, and subsequent earnings and distributions would be tax-free.
The administration highlights the following features of MyRAs:
1.Safe and secure. As with government savings bonds, the principal is guaranteed by the U.S. government and cannot be lost.
2. Voluntary, automatic, portable and small contributions. Like a payroll deduction program for purchasing government bonds, the program would run through an employer's payroll deduction system; the employee can chose whether to participate or not; once set up, the program continues automatically until stopped by the employee; contributions can be as low as $5 after an initial $25 contribution; and the employee can move the MyRA from one employer to another.
3. A modest investment return. Similar to the federal employees' Thrift Savings Plan Government Securities Investment Fund, the MyRA would earn a modest variable interest rate, estimated currently to be slightly more than 1 percent.
4.Widely available. Like the employer programs for savings bond purchases, the administration hopes that these programs would be widely adopted by employers and therefore widely available to employees.
5. Flexible distributions. MyRA holders can withdraw principal from the accounts tax-free at any time and for any reason and, once the funds in the account reach $15,000, they can roll the funds into a private-sector Roth IRA with the potential for a wider choice of investment options. After 30 years, the MyRA would be required to be rolled into a Roth IRA.
The goal is to put the program in place by the end of 2014. Eligibility to open a MyRA would be limited to individuals from households making less than $191,000 per year, a cut-off similar to that for contributions by joint filers to Roth IRAs.
COMPARED TO SAVINGS BOND PROGRAMS
For many years, employers have offered payroll deduction programs to purchase U.S. government bonds. An estimated 40,000 employers currently offer the program. Through most of that history, the program resulted in the purchase of paper savings bonds in denominations from $25 up. In the last couple of years, the program has gone paperless through a program called TreasuryDirect. Payroll deductions are held in a non-interest-bearing account until enough funds are accumulated to either buy a specified denomination of savings bond, or, under another option, to purchase marketable securities or multiple series or registrations of savings bonds. Those investments are held in a TreasuryDirect account administered by the government, rather than issuing paper bonds.
Savings bonds are guaranteed by the government and offer a modest rate of return set at the time the bond is acquired. Each bond produces a fixed rate of return, while the MyRA would offer a modest but variable rate of return. As bonds are purchased over time under the existing bond purchase program, each bond could have a different rate of return from the last bond purchased, producing something like a variable rate of return.
Earnings on savings bonds are generally taxable when redeemed and are set up to encourage a redemption after many years by ceasing to pay additional interest. The interest is exempt from state and local taxes. An exception to federal taxation may be available if the savings bonds are used to pay for higher education. Since the earnings from MyRAs would generally be tax-exempt, this would be a clear advantage for them.
Savings bonds typically have some minimum holding period of six months to a year before they can be redeemed. MyRAs, even though described as a retirement vehicle, can have contributions redeemed tax-free at any time, although, as with Roth IRAs, it is generally advantageous to put off redemption as long as possible to add to tax-free earnings growth.
While many employers sponsor savings bond purchase programs, they have become relatively less popular over the years as alternative tax-favored investment vehicles became available, such as traditional IRAs, Roth IRAs, and employer-sponsored retirement plans. Still, savings bonds would appear to have been a widely available savings option for many taxpayers with advantages similar to MyRAs. For the success of MyRAs, it will be important that employers offer MyRAs along with their current savings bond programs, or even that MyRAs bring more employers into the fold. It will also be important that employees not otherwise participating in a retirement plan perceive attractive features to the MyRA not currently available with government savings bond purchase programs, with tax-free distributions being a major possible additional incentive.
COMPARED TO ROTH IRAS
One problem with very small retirement accounts is that private financial firms do not want the administrative headaches of dealing with very small sums of money. Traditional IRAs and Roth IRAs attract private interest because, even though the annual additions may be small, the potential for significant accumulations over the years is great.
The $5-per-pay-period contribution minimum for MyRAs is likely to be too low to attract much private financial firm interest. By putting the government behind the MyRA until the fund reaches a sufficient size to be rolled into a Roth IRA at a private institution, the administration hopes that a savings habit will be developed among taxpayers where it does not currently exist. Of course, the government will bear the administrative costs for these small accounts that the private sector did not want to bear.
One important aspect of contributions to traditional IRAs, Roth IRAs and qualified retirement plans for lower-income taxpayers is that those contributions qualify for the Saver's Credit. The credit is a maximum of 50 percent of the amount of the contribution each year, up to a maximum contribution of $2,000, making the maximum credit $1,000. The percentage phases down as income goes up. Because MyRAs are being created under the Treasury's savings bond authority, it is not at all clear that they would qualify for the Saver's Credit, which might be a major disadvantage as compared to Roth IRAs. It might take congressional action for MyRAs to qualify for the Saver's Credit. Because the Saver's Credit is nonrefundable, it has also had relatively limited impact in getting lower-income taxpayers to save.
CAN MYRAS SUCCEED?
While MyRAs have many attractive features for lower-income taxpayers, it is still a voluntary system. Many private financial firms permit IRAs to be started with very low amounts similar to the $25 initial contribution being proposed for MyRAs.
The problem continues to be that lower-income workers frequently must choose between options such as rent, food or other essentials and saving for retirement, and in that analysis saving for retirement often loses out. The MyRA proposal does not seem to offer anything that would substantially address that problem.
At least one conservative group has suggested that MyRAs could be modified into private retirement accounts as part of the Social Security reform that many conservatives have long advocated. The Institute for Policy Innovation has suggested funding MyRAs with the temporary two percentage point reduction in Social Security taxes that expired at the end of 2012. This would constitute a mandatory funding source that would ensure participation. However, the quid pro quo would appear to be the long-term reduction in guaranteed Social Security benefits.
It is not at all clear that MyRAs can be any more successful than past efforts to increase savings for retirement. The funds that taxpayers have to set aside will be just as hard to come by as before. Even if set up initially, the availability of tax-free withdrawal at any time will make it quite possible that the funds will never make it to retirement, but instead be used for some other more immediate emergency need, as we have seen, for example, with 401(k) accounts when an employee has the option to take accumulated funds on separation from service.
Because the program appears easy to set up, the Obama administration may have success in getting employers to sign up, as many have signed up for the savings bond purchase programs. It is less certain, however, whether the administration can get the employees to sign up.
George G. Jones, JD, LL.M, is managing editor, and Mark A. Luscombe, JD, LL.M, CPA, is principal analyst, at CCH Tax and Accounting, a part of Wolters Kluwer.
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