Maybe I’m ignorant. Someone educate me please.
I thought that IRAs and 401Ks do NOT cost the government tax revenue long term.
Yes, they can claim that less is paid in taxes in the year the money is put away for retirement, but it is taxed as ordinary income in the year it’s withdrawn. So tax paid to the government in those years would be higher than they would be forecasting without IRA and 401K money.
So long term, it doesn’t “cost” the government any tax revenue, because the taxes are paid on the back end, not year by year.
If I’m wrong, somebody educate me.
The point is not the cost to government,. That’s just the excuse. What this is really about is the fact that this is a huge pool of money that the government wants to get its hands on. It’s for the children, you know.
Any of your money that you don't give to the government, the government considers as a "cost" to the government.
That's correct, but these guys are all about pushing costs into the future. If all they are looking to do it make it through the 2012 election, what good is taxing the gains on someone's tax-deferred retirement plan 20 years from now?
“So long term, it doesn’t “cost” the government any tax revenue, because the taxes are paid on the back end, not year by year.”
If you die with 401K money, your beneficiaries avoid tax on gains altogether.
Actually you probably have a lower income tax rate when you take it out. Put in in and don’t pay taxes until you retire and most people are in a lower bracket plus you don’t pay FICA on it ever.
Actually you probably have a lower income tax rate when you take it out. Put in in and don’t pay taxes until you retire and most people are in a lower bracket plus you don’t pay FICA on it ever.
IRAs and 401ks cost the government tax revenue in a few ways:
The investment income is tax deferred. Suppose you had income of 10,000 in 2011, paid 20% tax on it, leaving you with 8,000. In 2012, your 8,000 earned 10%, or 800, so you paid 20% tax = 160, leaving you with 8,640
Now suppose you put the same 10,000 into a 401k in 2011, earned the same 10% in 2012, so you’re up to 11,000, then paid the same 20% tax, so you end up with 8,800, which is 160 more than without the 401k and equal to the tax you paid in 2012. Do this over a career and it makes a big difference.
I assumed the tax rate was constant at 20% here. If it actually goes down because you’re in a lower tax bracket, you come out ahead. If you think rates are going down, do the pre-tax 401k or IRA. If you think rates are going up, do the Roth after tax. If taxpayers are rational, this should cost the feds a bit.
Third, the feds look at a ten year window when scoring the tax revenue. Even if you’re 60 now, you can put off starting the tax until you’re 70.5, so it looks like there’s no tax paid.
On the other hand, 401ks can increase the tax revenue. Many people take the money out prematurely, before they’re 59.5. They get hit with a 10% penalty, on top of the income tax.
Also, when people take the money out, there’s 20% withholding at the time of the distribution, which tends to speed up the tax paid (sort of gives them an extra year’s tax on the 10 year schedule.)