Rolling back the tax breaks for supersized nest eggs

President Obama’s budget proposal included a number of proposals to increase tax revenue not by raising rates but by cutting back on tax breaks. The Wall Street Journal’s editorial board singled out one such measure for ridicule Friday: a cap on an individual’s tax-sheltered retirement accounts at “an amount sufficient to finance an annuity of not more than $205,000 per year in retirement, or about $3 million for someone retiring in 2013.”

The board’s members seem to think that people won’t save for retirement unless they’re given a tax break to do so. Perhaps they’re right about that; the savings rate in this country is abysmal, and about three-quarters of the people nearing retirement age have less than $27,000 saved for their dotage, according to a 2010 study.

But think about that statistic for a moment. The problem here isn’t that people might stop tucking money away after their nest egg hits the $3 million mark. It’s that very few people have nest eggs that are even 10% as big as the limit. We need to induce more people to start saving.

The problem with so much of U.S. tax policy is that it provides too much incentive to people who don’t need it and too little to those who do. For example, policymakers made the interest on mortgages deductible to encourage more people to buy homes. But there’s no limit on the amount of interest that can be deducted, so there’s no real connection between deductability and affordability.

In that sense, Obama’s proposal would be an improvement over the current approach to retirement savings. Yes, there already are some limits on these accounts -- for example, people can’t deduct their IRA contributions from their taxable income if they earn more than a certain amount, nor can they make contributions to a Roth IRA if they exceed the annual income limit -- but the code is structured in a way that provides a tax break even to Ft. Knox-sized retirement accounts.

The Journal’s board tries to make the case that the tax breaks offered on retirement savings accounts are a good thing because savings generally are a good thing. “The savings are channeled into productive investment and they are eventually taxed when they’re withdrawn,” the board wrote (ignoring for a moment Roth IRAs, which earn interest tax-free and are not taxed upon withdrawal). But that’s akin to arguing that no savings should be taxed.

I’m not offended by Obama’s proposal, but I’m not a fan either. It would be complex to administer, considering that taxpayers may have multiple types of tax-preferred retirement savings accounts (e.g., 401(k)s, IRAs, Roth IRAs and self-employment IRAs). And it would add yet another layer of complexity to a tax code that should instead be made drastically simpler.

I’ve also come to view the tax code as an inefficient and often ineffective way to change behavior. The fact that Americans save so little for their retirement despite the many generous tax breaks the feds provide is a case in point. I’d rather see the tax code used to just raise the money the government needs to operate, simply and fairly.

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Follow Jon Healey on Twitter @jcahealey