The Build Back Better Act would curb pension plans for the wealthy

Speaker of the House Nancy Pelosi, D-Calif., Leads the vote for the Build Back Better Act at the US Capitol on November 19, 2021.

Anna Moneymaker | Getty Images News | Getty pictures

The House of Representatives passed a law on Friday that would limit how wealthy Americans use retirement plans.

The new rules are part of a broad $ 1[ads1].75 trillion tax buildup related to the Build Back Better Act, which will represent the largest expansion of the social safety net in decades and the largest effort in US history to combat climate change.

The House Democrats passed the bill along party lines, 220-213. It now goes to the Senate.

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Wealthy individuals with more than $ 10 million in retirement savings will have to withdraw their accounts each year, in a new type of required minimum distribution, or RMD. Lawmakers would also close “backdoor Roth” tax loopholes, widely used by the rich, and ban additional individual pension account contributions when those accounts exceed $ 10 million.

The measures are aimed at curbing the use of 401 (k) plans and IRAs as tax havens for the wealthy.

They – along with tax provisions targeting companies and households earning more than $ 400,000 a year – also increase revenues for universal pre-K, Medicare expansion, renewable energy credit, affordable housing, a year of extended tax deductions for children and large Obamacare subsidies .

The pension proposals were included in a first housing tax proposal in September. However, the White House removed the rules for the retirement plan from legislation passed on October 28 after lengthy negotiations with holdout members of the Democratic Party, who were concerned about some taxes and other elements in the package.

However, some of the previous retirement proposals did not reappear in the new iteration.

For example, the original legislation would have allowed IRA investments such as private equity, which require owners to be so-called “accredited investors”, a status linked to wealth and other factors. And some of the rules that the House adopted on Friday would come in years later than originally proposed.

The legislation is still subject to change in the Senate, where Democrats can not afford to lose a single vote for the measure to succeed due to united Republican opposition.

RMDs for $ 10 million accounts

At present, RMDs for account holders are linked to age rather than wealth. Roth IRA owners are also not subject to these distributions under applicable law. (One exception: inherited IRAs at death.)

The house legislation will add to these rules, and ask wealthy savers of all ages to withdraw a large proportion of the total pension balance annually. They will potentially owe income tax on the funds.

The formula is complex, based on factors such as account size and account type (before tax or Roth). Here’s the general premise: Account holders must withdraw 50% of accounts valued at more than $ 10 million. Larger accounts must also deduct 100% of the Roth account size over $ 20 million.

The distributions will only be required for individuals whose income exceeds $ 400,000. The threshold will be $ 450,000 for married taxpayers who sign up jointly and $ 425,000 for household heads.

The provision will start after 31 December 2028, according to the latest available summary of legislation. (It would have started after December 31, 2021 in the proposal for a house in September.)

Rear Door Roth

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The Roth IRA is particularly attractive to wealthy investors. Investment growth and future withdrawals are tax-free (after the age of 59½), and withdrawals are not required at 72 years as with traditional accounts before tax.

However, there are income limits to contributing to Roth IRAs. In 2021, single taxpayers can not save in one if their income exceeds $ 140,000.

But current law allows high-income individuals to save in a Roth IRA through “backdoor” contributions. For example, investors can convert a traditional IRA (which does not have an income limit) into a Roth account.

Current law also allows “mega backdoor” contributions to a Roth IRA by using tax savings in a 401 (k) plan. (This process allows the wealthy to convert much larger sums of money, since 401 (k) plans have higher annual savings limits than IRAs.)

The house legislation will address both.

First, it would prohibit any contributions after tax in 401 (k) and other workplace plans and IRAs from being converted to Roth savings. This rule will apply to all income levels starting after 31 December 2021.

Second, savers will not be able to convert pre-tax to Roth savings in IRAs and on-the-job retirement plans if their taxable income exceeds $ 400,000 (single), $ 450,000 (married couple) or $ 425,000 (household heads) ). It was to start after 31 December 2031.

IRA grant limits

Current law allows taxpayers to make IRA contributions regardless of account size.

However, the law would prohibit individuals from making multiple contributions to a Roth IRA or traditional IRA if the total value of their combined retirement accounts (including workplace plans) exceeds $ 10 million.

The provisions of this section are also effective for tax years beginning after December 31, 2028. (As with the RMD provisions, they would have begun after December 31, 2021 in the September House proposal.)

The rule will apply to single taxpayers when the income is over $ 400,000; married couples over $ 450,000; and household heads over $ 425,000.

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