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Retirement Account IRA Cap Proposal in Obama Budget

There were two major headlines (so far!) from President Obama’s budget proposal – using Chained CPI for Social Security [3] and a cap on retirement accounts [4]. Many places have cited the cap as a $3 million cap but in reality it’s a calculation. The limit is based on how much you could get from your retirement account if you converted it to an annuity. An annuity, if you recall, is basically a series of payments, typically annually. A pension is a type of annuity.

Right now, as far as I know, there isn’t a cap on retirement accounts (Mitt Romney disclosed he had an IRA with over $100 million [5]). Your cap is essentially on the front end, how much you can contribute, and business owners, including self-employed individuals, have different limits than employees.

For example, as an employee, you can contribute up to $17,500 to a 401(k) this year. As a business owner, I can contribute that amount as an employee but I can also contribute up to $51,000 a year as an employer (the limit is 25% of my compensation). So you only hit the current limit if your business generates in the hundreds of thousands of dollars. Granted, not many business owners are in this category (and most articles don’t talk about how the employer limit is 25% of compensation, not anything up to $51,000), but you have enough high profile names to make this a convenient target.

The argument is that you don’t need a retirement account of that size and they estimate it would generate $9 billion in revenue over the next decade. Presumably, this would come from taxation of income that savers wouldn’t be able to defer into a retirement account. I suspect this will not affect many folks (and let’s face it, $9 billion over ten years is nothing in an annual budget of $3.5 trillion) but the proposal didn’t go into the details of how this would work – just floated the idea of it.

Unlike the use of Chained CPI for Social Security, this one has the feel of a red herring. Using a smaller inflation figure to calculate government payments will have a real noticeable impact on people. Capping IRA accounts? Doubtful. Average retirement savings [6] is so low that $3 million looks laughable.

(Photo: robstephaustralia [7])