Get set for a new tax on your retirement

President Obama recently called for extending the Bush-era income tax cuts for those earning less than $250,000 per year. To some, the announcement seemed like a compromise of sorts, but to others it was just another example of class-warfare.

While the income tax debate is certainly very important, the back-and-forth arguments have largely ignored the other tax cuts that are due to expire — namely, capital gains and dividend taxes — and how these tax increases would significantly and adversely affect the retirement accounts of senior citizens in Florida and across the county.

While it may not seem obvious to most of us that an increase in the dividend tax rate would affect “tax-deferred” retirement accounts, it absolutely will. This is because dividend taxation occurs in taxable brokerage accounts. Since IRAs, 401(k) and other retirement accounts consist of mostly stock mutual funds, these shares are priced to reflect their after-tax value to investors, which ultimately is reflected in the value of retirement accounts for senior citizens and others.

So, what will the tax increase be if Congress and the President do not act? If not extended by the end of 2012, qualified dividend taxes would increase from 15 percent to the top rate of ordinary income rate of 39.6 percent, plus the 3.8-percent investment surtax from Obamacare — bringing the top dividends tax rate up to an enormous 43.4 percent. In other words, the dividend tax rate would nearly triple! The impact on retirement accounts would be very significant indeed.

Whether you hold stock in a taxable brokerage account or a retirement plan, the sharp tax increase means that stock prices will be negatively affected. Considering the effects of the increase on dividend-paying stocks relative to retirement holdings, the Americans for Tax Reform estimated that retirement accounts would see a price decline of roughly 15 percent. In other words, if the tax cuts are not extended, your $60,000 401(k) could eventually lose $9,000 of its value.

But aren’t these tax increases most likely to affect the rich?

If these increases are allowed to take effect, it will hurt retired schoolteachers, firefighters or office workers. It will hurt the young and the old, union and nonunion workers, private and public employees, and it will affect wealthy and poor.

Because retirement accounts have had limitations on annual contributions, they are generally modest in size and cut across all demographic strata. In fact, an Oliver Wyman study sampled IRA accounts and found 40 percent to be less than $10,000 in value.

We all need to remind Congress and the president to extend these tax provisions, including capital gains and dividend taxes. Why tax what we should encourage?

Steve Pociask is president of the American Consumer Institute, a nonprofit educational and research organization. Contact him at [email protected].

Published in the Tallahassee Democrat on July 27, 2012 (link here)

 

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