Joe Biden‘s win isn’t yet certified by the states – and he’s still two months away from getting sworn into office – but his proposals on wealth building, taxes and other issues are gaining fresh scrutiny. So, too, for some other ideas advanced by leading Democrats.
It’s way too early to know if these proposals will ever get enacted, especially if Republicans hold onto the Senate, but here are a few interesting ones that would affect many mainstream Americans.
Investors for decades have grown accustomed to receiving tax deductions on money they contribute to Individual Retirement Accounts and workplace 401(k) programs. The tax breaks are more valuable to people in higher-tax brackets, who also typically have more money to invest.
‘Equalizing’ 401(k) investing
One Biden proposal would shake up that model by replacing the current system of deductible contributions with a flat tax credit instead. Credits directly reduce taxes owed while deductions lower the amount of income subject to taxes.
“The idea is to make everyone’s contributions the same amount of money,” said Jeffrey Levine, a certified public accountant and director of advanced planning at Buckingham Wealth Partners. “It would effectively flip the retirement savings paradigm on its head.”
Under the Biden plan, investors in retirement accounts would receive a credit estimated at 26% of the dollar amount contributed. That would tend to favor lower-income workers, including many who don’t currently contribute to retirement plans. But it would diminish the tax incentives for high earners.
For example, a person in the top 37% individual bracket currently receives a $37 tax benefit for every $100 contributed into a retirement account, noted Garrett Watson, senior policy analyst at the Tax Foundation. By contrast, a person paying taxes at the bottom bracket would receive just $10 in tax breaks on a $100 contribution.
A 26% credit would roughly equalize that and correspond to a tax deduction at a 20.5% marginal rate. The plan is designed to be revenue neutral for the federal government.
If the idea becomes law, it likely would encourage some people to put more money into Roth IRAs or Roth 401(k) plans, as their appeal doesn’t depend on front-end deductions or credits but, rather, the ability to withdraw money tax-free. Roth conversions thus could become more popular, even though they require people to pay taxes now when moving money out of traditional IRAs or 401(k)-style plans.
“You (might) be better off putting money into a Roth IRA, sucking it up by paying the tax today, but letting it be tax-free in the future,” Levine said during a webinar sponsored by AICPA, the American Institute of Certified Public Accountants.
Potential downpayment assistance
Housing didn’t emerge as a major issue in the election. Nor do slumping prices hang over the economy like they did in the 2008 or 2012 presidential votes. Still, Biden has voiced big plans for housing, including $640 billion in federal investments over 10 years to give all Americans access to safe, affordable and energy-efficient dwellings.
Lending Tree recently summarized Biden’s housing platform. The many proposals range from creating a bill of rights for homeowners/renters to devising new appraisal standards to weed out racial bias in the homeownership/mortgage process.
One especially impactful, and expensive, Biden proposal would creative an advanceable tax credit of up to $15,000 to encourage more first-time homeowners.
“Affording the downpayment is an obstacle to homeownership for many Americans,” noted the Lending Tree report. Under Biden’s plan, “Homebuyers would get the tax credit when they purchase a home … instead of paying out of pocket then getting refunded at tax time.”
Additional downpayment assistance also could get extended to teachers, first responders and others in specific occupational groups.
The Biden camp hasn’t released many details, such as the potential cost of this tax break or eligibility rules. But there is a precedent for this type of legislation, as Congress enacted a $7,500 first-time homebuyer credit (later increased to $8,000) to spur sales activity during the Great Recession.
But this time, there’s no housing slump and, if anything, a shortage of dwellings. So the goal here wouldn’t be market stimulation so much as broadening the homeowner base.
Starting investments at birth
If politicians want to ensure all Americans get off to a good financial start, especially at a time when racial and other wealth gaps are wide, “baby bonds” could get a look under a Biden presidency.
Under this concept, proposed largely by other Democratic leaders, the federal government would contribute money to savings accounts held by minors. When a recipient turns 18, the accumulated funds could be used for college, to buy a home, to start a business or for other purposes.
One proposal from Sen. Cory Booker (D., N.J.), called the American Opportunity Accounts Act, calls for the government to seed accounts with $1,000 for every child at birth, with subsequent annual contributions of up to $2,000 (with amounts varying based on family income or assets). Contributions would be invested in Treasury bonds.
In an analysis, investment researcher Morningstar said it supports the baby-bonds concept as a way to help get children from lower-income families off to a good start, though the firm hasn’t endorsed any specific legislation.
“Baby bonds would not be a panacea, but they hold promise for addressing the racial wealth gap,” said the report co-written by Aron Szapiro, Morningstar’s head of policy research.
But there are challenges. One is making sure recipients don’t blow their money when they turn 18. Then there’s the quandary of how much risk should children be allowed to take. Morningstar suggests allowing families to invest in various mutual funds or exchange-traded funds, not just Treasury bonds, while ensuring that recipients receive sound investment advice along the way.
Then there’s the cost. With nearly 4 million births each year in the U.S., even $1,000 per child in initial seed money would represent a $4 billion annual outlay.
Szapiro estimates the baby-bonds program would cost the government somewhere between $60 billion and $80 billion annually. While Biden has been more receptive to expanding the child-tax credit (at an expense estimated by Penn Wharton at $110 billion for 2021), the baby-bonds program “would cost quite a bit less,” he noted.