In his closing statement at last week’s final debate with former Vice President Joe Biden, President Donald Trump made it clear who he thought savers should cheer and vote for in retirement. “If he goes in, you will experience a depression like you have never experienced before,” Trump warned of his Democratic rival around the White House. “Your 401(k)s will go to hell.”
This year, the 43 percent of Americans who participate in retirement savings plans in the workplace have already been to hell, back and halfway, it seems, as the pandemic took stock prices on a wild rollercoaster ride. By the end of the first quarter of 2020, the average 401(k) balance had fallen by 19 percent according to Fidelity Investments, only to rise again by 14 percent in the following three months. This was followed by further ups and downs, and despite the decline of around 1,800 points in the first three trading days of the last full week before the election, share prices for the year to date are now basically flat.
Which candidate as president is more likely to bring the market back on the winning track is, however, only part of the question of whether Trump or Biden would be better for your 401(k). Also important is what steps the next president might take that would affect the tax breaks that savers receive from Uncle Sam for embezzling money in these accounts. Only Biden has put forward proposals specifically for workplace retirement plans, but Trump’s plans for his second term income tax cuts in his first term, which currently expire in 2025, could affect anyone with a 401(k).
Here is how the candidates’ pension plans are getting out of hand.
Who offers the biggest tax breaks
Despite some scary sounding headlines in the financial press – “Joe Biden will end your retirement plan as you know it,” one recently announced – the proposed changes to the 401(k) plans announced by the Democrats last month are quite modest. At the heart of the changes is that the tax relief you receive for contributions to a job plan will be a credit instead of a deduction. The goal? To provide greater tax breaks for low and middle-income earners so that they are encouraged to save more for retirement.
Now that the benefit is working, your contributions to a 401(k) will reduce your taxable income by $1 for every dollar you deposit into the account, up to an annual cap of $19,500 in 2020 and 2021 (savers over 50 can deposit an additional $6,500). The higher your tax bracket, the more money you save in taxes on this contribution. For example, a person in the highest tax bracket of 37 percent now saves $37 in tax per $100 contribution to a 401(k); in the lowest tax bracket of 10 percent, the same $100 contribution saves only $10 in tax.
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A tax credit, on the other hand, directly lowers your tax bill, dollar for dollar – and is always worth the same amount regardless of your income level. The Biden camp has not specifically stated how much the proposed new tax credit would be worth, but estimates from the Tax Policy Center and other experts suggest that it is likely to be a 26 percent credit for every dollar contributed, based on the Democrat’s statement that the plan should be income-neutral and should not cost the government any extra money compared to current law. For example, an employee who contributes $10,000 per year to a 401(k) under this plan would save $2,600 in federal income taxes.
If Biden makes the loan repayable, you would receive the full loan even if you owed less than that amount in taxes. The “extra” money would come back to you in the form of a tax refund.
“In fact, the proposal offers a new benefit to taxpayers in the lower income tax brackets, while providing slightly worse treatment for higher earners,” says Garrett Watson, a senior policy analyst at the right-wing Tax Foundation. For example, he estimates that an employee who earns $40,000 a year and makes an average contribution of 401(k) equal to 9 percent of his or her salary would save an additional $392 in taxes under the Biden Plan compared to current law. By contrast, someone who earns $80,000 at the same pension contribution rate would, according to Watson, save about $124 less in tax