Tax Reform: Some Thoughts on the Impact of the Retirement Provisions in the Tax Cuts and Jobs Act (H.R. 1)
A blog by Pete Swisher, CFP®, CPC, TGPC Senior Vice President, Pentegra Retirement Services
Quick summary:
The Bill is on the President’s desk for signature. Most retirement-related provisions that had been included in early versions have been stripped out—the emphasis is on personal and corporate income tax reductions. Here are the retirement plan provisions that made the final Bill:
- 60-day rule extended. You will have until your tax filing deadline to complete a rollover transaction
- No re-characterizations of Roth conversions (can’t reverse Roth IRA conversions anymore)
- Chained CPI. Contribution and benefit limits will grow more slowly due to use of a lower rate for inflation.
- “Length of service” awards. Relatively obscure rule; limit raised from $3,000 to $6,000.
- The big one: effect on plan design of the 20% pass-through tax (see below)
Will the 20% pass-through tax deduction hurt qualified plans?
Short answer: a little. Under current law, “pass-through” taxpayers like partners and S-corp owners have all of their income from the business flow through to their personal income tax returns, where they pay ordinary income tax rates. Under H.R. 1, the first $315,000 (joint) or $157,500 (single) is taxed at a flat 20%, with the remainder taxed at ordinary tax rates. This can affect a business owner’s decision to sponsor or fund a qualified plan as follows:
- Lower deduction. While the lower rate, overall, is good news for a business owner, it actually lowers the effective deduction for qualified plan contributions.
- Distributions still taxed at ordinary rates. An owner in a high tax bracket in retirement will still pay ordinary income tax rates of up to 37% on distributions—even though he or she only got a 20% deduction up front (instead of 37%).
- Practical impact. The math will change, and we pension geeks will need to study the math so as to tweak our plan design advice, but relatively few business owners are going to outright stop contributing or sponsoring plans. The new rules are less beneficial to business owners than the old, and contributions will likely drop somewhat in the aggregate, but the overall rules will remain beneficial.