The day after Congress passed the new healthcare law, an opponent called it "a fiscal Frankenstein." In fact, those are fitting words for Roth individual retirement accounts, or IRAs. Roths drive up the federal deficit and cause other pain. They're great for holders but grim for America. It's time to retire them.
Retirement accounts were designed by Congress to spur saving by Americans for their golden years. Let's compare a Roth IRA to other accounts, such as traditional IRAs, 401(k)s or 403(b)s.
In the other accounts, contributions are tax deductible and nest-eggs grow tax-free until money is withdrawn. Payouts can begin at age 59 1/2; they must begin after age 70 1/2 and be taken annually thereafter, and they're fully taxable. The accounts strike a two-way bargain: years of tax deferral and deductions, followed by years of taxpaying withdrawals.
Then, in 1997, Congress created the Roth IRA.
In a Roth, taxes are treated the other way around. There's no tax break on contributions. But from that point on, taxes simply vanish. As long as the account is at least 5 years old, there is no tax on any withdrawals made after age 59 1/2. There's no requirement that you make a minimum withdrawal — after age 70 1/2, or ever.
All of which makes Roths a perfect "fiscal Frankenstein." In return for little more than ordinary upfront taxes, Congress waived untold billions in future Treasury receipts. Then, too, Roths could be a drag on the U.S. economy. Since no withdrawals are required, assets can lie idle indefinitely.
For Roth holders, the accounts become a permanent, federally sanctioned tax shelter. For America, they're a bit like toxic instruments on the nation's books. Worse, Congress has them on steroids, and President Obama wants to up the dosage.
The limit on annual Roth contributions has risen from $2,000 to $5,000. Persons over 50 can add another $1,000 to "catch up." That's a $6,000 per-year maximum, $12,000 for a married couple — triple the original limits.
And conversions from a traditional IRA to a Roth IRA ballooned after 2010, when income limits were lifted. Conversions, set up in the 1997 law, are routine paperwork exchanges. Holders of regular IRAs cash out, pay any taxes due and convert the proceeds to Roths.
Originally, only those with adjusted gross incomes of less than $100,000 were eligible. But Congress removed the $100,000 limit for Roth converters.
In an article titled "The Rise of the Super-Rich," financial journalist Teresa Tritch condemned the change: "Under previous law, Roths had been off-limits to wealthy Americans, precisely because the government did not want to help people amass big estates under the guise of saving for retirement. That sound principle has now been turned on its head."
The rich rushed through the Roth open door. Fidelity Investments handled 22,000 conversions in January 2010, roughly quadruple the year-earlier level. The Vanguard Group had close to 30,000 Roth conversions in the same month (nearly 70% of its total for all of 2009), and conversions through May were five times greater than the year earlier. A December surge capped Fidelity's fourfold increase, lifting its 2010 conversion total to about 220,000 accounts.
Financial analysts endlessly debate Roth conversions. Many see them as a slam dunk. But naysayers point to red flags, starting with the hefty tax bite.
Roths could also multiply in an instant. A provision making Roth IRAs the default retirement plan for employees at certain companies is in the president's 2012 budget. The president, says Howard Gleckman, is being seduced by "the siren song of the Roth."
Gleckman is the editor of TaxVox, a blog published by the nonpartisan Tax Policy Center in Washington. Here's Gleckman on Roths for the rich: "In the long run, turning billions of dollars from tax-deferred to tax-free savings will be a huge loser for Treasury. My colleagues at Tax Policy Center figure that, through mid-century, allowing unlimited Roth conversions will reduce federal revenues by $100 billion."
Whatever the answer for individuals, there's little doubt that Roths are wrong for America. They're Frankensteins, fated to wreak havoc. It's time to retire Roth IRAs.
Gerald E. Scorse writes about taxes.