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Congress Works On Tax Overhaul, Trump Says 401(k) Breaks Won't Change


Congress is rediscovering a basic reality of tax reform - that it's hard because in tax reform, you often take away tax deductions. And one person's tax loophole is another person's tax benefit. The latest example is this. There were reports that Republicans might be considering lowering the cap on tax-deductible contributions that workers make to 401k retirement accounts. You'd be able to put less money in tax free. And then yesterday came a tweet from the president saying the opposite.

Quote, "there will be no change to your 401k." For more on this, we turn, as we often do, to David Wessel. He directs the Hutchins Center at the Brookings Institution and is a contributing correspondent for The Wall Street Journal. David, good morning.

DAVID WESSEL: Good morning.

INSKEEP: Would you remind us how a 401k works and how that would change if this idea ever became law?

WESSEL: Sure. The tax law currently says that workers can take a tax deduction if they make a contribution to one of these retirement plans of up to $18,000 a year or $24,000 a year if you're over 50. The money is taxed only when it comes out in retirement.

INSKEEP: Oh, so that way, you can, like, you can grow the money tax free. And it's taxed at the end, OK.

WESSEL: Exactly. Now, the Republicans were considering lowering that $18,000 cap to $2,400. But there was a twist. Any additional contributions would go into what's called a Roth-style retirement account, named for a former senator. That means no upfront tax deduction. But you don't have to pay taxes when you take the money out in retirement. It turns out that's really unpopular with people who take advantage of this deduction and really unpopular with the money management industry that manages this money.

Now, the president, as you said, seems to have killed this off. He tweeted, quote, "this has always been a great and popular middle-class tax break that works and it stays," exclamation point.

INSKEEP: Well, why were Republicans thinking about this at all?

WESSEL: Well, look, Republicans are struggling to keep the size of their tax cut to $1.5 trillion over 10 years, and they have a $4 trillion wish list. So something has to give. This particular proposal had what is a gimmick of sorts 'cause it would have raised about $100 million in the near term because people were taking fewer tax deductions. But it would have lowered revenue far in the future when the money came out of retirement accounts.

INSKEEP: So it would get the benefit, so to speak, now, for the deficit anyway, and cause some problems later.

WESSEL: Exactly.

INSKEEP: So this goes away. The president wants this to be seen as a middle-class tax break, this plan on the whole. Is that true? Is that accurate?

WESSEL: Well, certainly a lot of self-described middle-class people take advantage of it, that's for sure. But the fact is that upper-income tax payers get a lot more benefit from all these tax breaks that lower income tax.

INSKEEP: Oh, because they have more money to put in.

WESSEL: Well, first of all, yes, but also the higher your tax bracket, the more you save from any deduction. But, yes, upper-income people are the ones who have enough money left over after they pay their bills to put $18,000 in a retirement account. Most people don't do that. A couple of Census Bureau researchers, Michael Gideon and Josh Mitchell are their names, recently figured that only about a third of all workers save in these accounts at all. The rest either aren't offered them at work or if they're offered, they don't participate.

INSKEEP: So are they actually encouraging retirement savings at a time when we're worried that millions of Americans aren't saving enough for retirement?

WESSEL: OK, that's a good question. Now, there's a lot of academic debate on that. The question really is whether a lot of people, particularly well-off folks, are getting a tax break for saving they would have done otherwise. There's one study by an economist named Raj Chetty at Stanford who found that only about 15 percent of the workers respond to the size of the tax break for retirement. The rest, 85 percent, simply put in their account whatever the contribution is that their employer tells them that they put it in. So it doesn't make any difference.

INSKEEP: You know, all this discussion is reminding me of a forecast that I've seen in recent weeks that Republicans might end up just cutting tax rates, letting the deficit go up and forgetting about all this eliminating deductions to pay for it.

WESSEL: I think that's highly likely. It's a lot easier to cut tax rates, run up the budget deficit, than it is to offset the lost revenue by getting rid of somebody's tax break, especially one that's popular. The constraint is, though, the Senate budget resolution says no more than $1.5 trillion over 10 years. So either they're going to have less of a tax cut or they're going to have to get rid of some popular deductions.

INSKEEP: David, always a pleasure talking with you.

WESSEL: You're welcome.

INSKEEP: That's David Wessel of the Hutchins Center at the Brookings Institution. Transcript provided by NPR, Copyright NPR.