Legislative Spotlight

March 2014• Vol. 6, Issue 3

LEGISLATIVE SPOTLIGHT is produced by NAIFA and is supplied to the Society of Financial Service Professionals as a collaborative effort that seeks to raise federal and state regulatory awareness for financial service professionals. The essential purpose is to facilitate understanding and a more fruitful dialogue with constituents and/or clients with regard to these important issues.

Speaking as one, we can and will make a difference.

Comments on Legislative Spotlight: Contact Ron Panneton with comments or suggestions concerning this newsletter.

Ways & Means Chairman Releases Fundamental Tax Reform Plan

On February 26, House Ways & Means Committee Chairman Dave Camp (R-MI) released a discussion draft of his fundamental tax reform plan. The plan does not impose new taxes on life insurance or annuity cash values. And it has largely left revisions to the Affordable Care Act for another day. It does, however, make significant changes to retirement savings tax rules, particularly those governing defined contribution (DC) plans (like 401(k) plans) and IRAs. It also creates a new tax category for the wealthy (those who earn $400,000/individual or $450,000/married) that impacts DC plan contributions and employer-paid health insurance for these taxpayers. It changes the tax rules governing capital gains, too.

: After three years of study and discussion, including testimony from NAIFA Past President Rob Smith, the House's lead tax writer has offered a comprehensive (individual, business, corporate, international) tax plan that reduces tax rates and broadens the tax base. According to a Joint Committee on Tax  (JCT) analysis , the Camp tax reform plan would add some $3.4 trillion over 10 years to gross domestic product (GDP) and create 1.8 million new jobs over the decade. It repeals or changes more than 200 current tax law rules, and reduces the size of the tax code by 25 percent, Rep. Camp says.

Key Considerations
: The most important aspect of the Camp tax reform plan is what it does not do—it does not propose taxing life insurance/annuity inside buildup, or some employer-provided benefits. It does, however, propose significant new tax rules for retirement savings. And it proposes changes to nonqualified deferred compensation (NQDC) and company owned life insurance (COLI) rules.

Highlights of the plan include: 

·         A reduction in individual tax rates to 10 percent (on household income of up to around $71,200) and 25 percent (amounts over that), plus a new “surcharge/35 percent bracket/deduction cap” category that impacts those who earn $400,000/individual or $450,000/married. The surcharge category imposes an extra 10 percent tax liability on a substantially broader income tax base—employer-paid health insurance and contributions to defined contribution (DC) retirement plans would be included in the taxable income base.

·          The plan limits tax-free contributions to DC plans to half the total allowable annual contribution (the other half could still be contributed, but on a Roth basis (i.e., after-tax contributions and tax-free distributions).

·          The plan repeals traditional (tax-free contributions) IRAs, and eliminates the income restrictions for contributions to Roth IRAs.

·          The plan changes NQDC rules so that deferred compensation will become taxable in the year that it is no longer subject to a substantial risk of forfeiture.

·          The Camp plan repeals capital gains tax rates and instead taxes capital gains at ordinary income tax rates, but with a 40 percent above-the-line exclusion.

·          COLI's pro-rata interest disallowance rules would be significantly narrowed so that only life insurance on the lives of 20 percent (or more) owners would be exempt from the rule that disallows unrelated interest deductions to the extent they equal the amount of COLI cash values owned by the company.

·          The prohibition on using tax-free funds from health accounts to pay for over-the-counter drugs would be repealed, and expenses for such medication could again constitute qualified medical expenses.

Many Washington insiders believe the Camp tax reform plan could form the base from which Congress rewrites the current tax code—but they believe this work will not happen prior to the November 2014 mid-term elections.

To Learn More : Contact Diane Boyle

Bipartisan Pension Bill Would Expand Multiple Employer Plan Rules, Add New 401(k) Safe Harbor

On January 30, Sens. Susan Collins (R-ME) and Bill Nelson (D-FL) introduced S.1970, legislation that would expand the ability of small employers to join a multiple employer pension plan (MEP), and would add an optional second safe harbor discrimination rule for 401(k) and other defined contribution (DC) pension plans. The bill would “increase access to retirement plans and make it easier for folks to put more money aside,” said Sen. Nelson.

S.1970 contains four distinct sections. One modifies current MEP rules; another one adds a new automatic contribution safe harbor; another provides discrimination testing relief under current law safe harbor rules; and one simplifies the ability of individuals to claim the retirement saver's credit.

MEPs : The Retirement Security Act would waive current law's requirement that there be a connection among unrelated businesses in order to join a MEP. The waiver would be available to businesses with fewer than 500 employees. The bill also modifies the rule that causes the MEP to fail the pension qualification rules if any participant employer in the MEP fails the rules. Under the modification, only the business that fails would be subject to plan failure sanctions. Each participating MEP employer would retain its fiduciary duty to its employees. The bill also provides for simplified reporting and disclosure by MEPs.

Automatic Contribution Plan Safe Harbor : In addition, S.1970 would add a new, optional safe harbor for automatic enrollment plans seeking to avoid the need for annual discrimination testing. Under the new safe harbor, an automatic enrollment DC plan sponsor could match employee contributions of up to 10 percent of compensation. It also provides a tax credit for employers of fewer than 100 workers to offset the cost of a match above six percent. Details include:

•  The automatic enrollment contribution level (which could be changed by employees) would be six percent of compensation in the first year, eight percent of compensation in the second year, and 10 percent of compensation in all subsequent years

•  Matching contributions for all eligible non-highly compensated employees (NHCEs) would have to equal 100 percent of the employee's contribution on the first one percent of pay; 50 percent on the next five percent of pay; and 25 percent on the next four percent of pay

•  The amount of the tax credit would be limited to the first two percent of each NHCE's matching contributions and would be available for only the first five years of the NHCE's participation in the plan

Discrimination Testing under Current Law Safe Harbor : The bill would exempt a plan that uses the current law discrimination test safe harbor from both top-heavy rules and annual testing requirements applicable to pre-tax elective contributions and matching contributions, but not after-tax employee contributions. Notice and disclosure requirements are also included in this section of the bill.

Saver's Credit and Form 1040EZ : Finally, the Collins-Nelson bill directs the Treasury Department to revise Form 1040EZ so that individuals claiming the saver's tax credit could do so on the easier tax form rather than having to use the longer, more complicated Form 1040.

The retirement community generally supports the Collins-Nelson bill, although some observers have raised concerns about the potential for the bill to favor higher-income plan participants over rank-and-file workers. Whether the measure will move through the legislative process this year is questionable—the bill will likely carry a significant revenue cost; it will run into resistance among lawmakers who are focused on a complete overhaul of the tax code; and some observers will say it tilts too much in favor of wealthier retirement savers. However, it does incentivize employers to set up retirement plans and the growing concern about the adequacy of Americans' retirement savings rate could spark more interest in the bill.

To Learn More : Contact Judi Carsrud

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