Budget Crises: Issues for Retirement Plans

February 18, 2013

The first part of 2013 is shaping up to involve a series of political crises related to the budget and the budget deficit. In this article we review the key dates (when, in effect, the crises become ‘critical’) and whether and which retirement plan issues may be part of any related Congressional action.

Budget crises -- key dates

The following are a series of events happening early in the year that, in effect, require (or are thought to require) Congressional action, any one of which may produce a ‘budget showdown.’

Increasing the debt ceiling: It remains unclear exactly when Congress will have to increase the debt ceiling. The best official estimate came in a January 14, 2013, letter to Speaker of the House John Boehner (R-OH) from Treasury Secretary Geithner. In that letter, Secretary Geithner stated "Treasury currently expects to exhaust … extraordinary measures [to avoid debt ceiling cutbacks] between mid-February and early March of this year."

Imposition of the sequester: After the two-month delay included in fiscal cliff legislation, the ‘sequester,’ triggering $1.2 trillion in spending cuts over 10 years (and $100 billion in 2013), is scheduled to take effect on March 1, 2013. Many (including the President) would like to somehow avoid the sequester.

Continuing resolution: The federal government has not been operating with a budget for some time; instead it operates under a ‘continuing resolution.’ The current continuing resolution expires March 27, 2013. If another continuing resolution is not adopted by that date, the government will face a temporary shutdown.

In a non-gridlocked world, it's conceivable that Congress would simply increase the debt ceiling, repeal the sequester, and pass a continuing resolution. In the current world, with the federal government running $1 trillion + budget deficits, with the Administration asking for further revenue increases and Republicans asking for spending cuts, anything could happen -- a government shutdown, a compromise or something unpredictable.

Bottom line: early this year (probably in March) Congress will either resolve these issues or trigger some kind of crisis.

How does this affect retirement policy?

In our article ‘Fiscal cliff’ legislation and retirement benefits: 2013 explained we discussed how new, increased tax rates on high earners -- particularly increased capital gains/dividend rates and the new Medicare tax on net investment income -- have made qualified retirement plan benefits more valuable. While the impact of the new rates is not direct -- basically, it now costs more in taxes if you are saving outside of a qualified plan -- it is significant.

Here are possible outcomes for retirement plans in the next round of crises:

If Congress acts only on spending, retirement plans are likely to be unaffected.

One of the ‘lines in the sand’ for Republicans in recent debate over the budget has been, after the fiscal cliff tax increases, ‘no more taxes.’ Democrats, on the other hand, have insisted that action be ‘balanced’ and involve both spending cuts and tax/revenue increases; in this regard Democrats often cite Simpson-Bowles proposals to limit tax deductions.

If action is only on spending, it is unlikely to affect retirement plans -- the federal government generally does not ‘spend money’ on (private) retirement plans. It does provide tax incentives for qualified retirement plans, and those tax incentives are for some purposes characterized as ‘tax expenditures.’ But Republican opposition to new taxes appears, at present, to include opposition to reductions in tax expenditures.

There are ‘revenue enhancements’ that do not literally have to do with the Tax Code, e.g., an increase in Pension Benefit Guaranty Corporation premiums. And it is conceivable that Republicans could accept some of these sorts of revenue increases while still taking the position that they are not raising taxes. But if Republicans are successful in insisting on a ‘spending only’ deal, then generally retirement plans will be unaffected.

If Congress acts on taxes, several elements of retirement policy may be ‘in play’

If Republicans do agree to revenue increases, there are several proposals that are being, or have been, considered that would affect retirement plans:

Increase PBGC premiums. We have written several articles on this issue. PBGC, even after the MAP-21 premium increases , continues to advocate a revision of its premium structure and a related premium increase. PBGC premiums count as revenues and were, in MAP-21, a ‘pay-for’ for unrelated transportation legislation.

Extend MAP-21 funding relief. Historically low interest rates continue to make funding defined benefit plans expensive, and some have advocated for some sort of ‘extension’ (or improvement) of relief for 2013. Funding relief reduces contributions/deductions and therefore increases revenues.

Limit retirement savings tax incentives. We have written extensively on this issue -- our most recent article was The fiscal cliff, "caps on deductions" and retirement savings . While not targeting retirement savings tax incentives specifically (e.g., the exclusion for 401(k) contributions), recent comments by advocates of ‘more revenues’ have talked about limiting deductions.

As we noted in our earlier article, the Administration's last budget called for a reduction in the value of itemized deductions and other tax preferences, including retirement savings tax incentives, to 28% for joint filers with income over $250,000. The next Administration budget may be out this month and should give us an indication of whether this proposal is still an Administration priority.

Change Roth rules. In the fiscal cliff deal the two-month postponement of the application of the sequester was funded in part by allowing in-plan Roth conversions. While there has not been a lot of discussion of it, incentives for making Roth 401(k) contributions (instead of ‘regular’ 401(k) contributions) would produce revenues, simply because of the way Congressional Budget Office scoring works.

There are, of course, other proposals Congress could adopt -- other creative ways to produce revenue by changing Tax Code retirement plan rules that may surface.

* * *

We will continue to follow this issue as it develops.

October Three, LLC is a full service actuarial, consulting and technology firm that is a leading force behind the reemergence of defined benefit plans across the country. A primary focus of the consultants at October Three is the design and administration of comprehensive retirement benefits to employees that minimize the financial risks and volatility concerns employers face.

Through effective plan design strategies October Three believes successful financial outcomes are achievable for employers and employees alike. A critical element of those strategies is the ReDB® plan design. The ReDefined Benefit Plan® represents an entirely new, design-based approach to retirement and to the management of both the employer’s and the employee’s financial risk, focusing on maximizing financial efficiency and employee value.

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