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Democrats may change the rules for ‘mega’ IRAs over $5 million

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Democrats may change the rules for “mega” individual retirement accounts with more than $5 million to help fund their expansion of the country’s safety net.

“Mega retirement accounts” are among roughly two dozen tax categories congressional Democrats are eyeing to help raise money for a $3.5 trillion spending measure, according to a discussion list obtained by CNBC.

The policy would “require taxpayers to distribute retirement account balances that exceed certain thresholds,” according to the list, which is a draft of ideas lawmakers assemble before formally pitching them in the House or Senate.

Such a rule would essentially function as a new type of required minimum distribution tied to account value instead of age.

The list doesn’t specify an exact account threshold, but suggests the limit might be $5 million. (It states that the number of mega IRA accounts with more than $5 million tripled in the past decade, while the average account balance for the middle class is $39,000.)

The policy idea is part of a broader theme of raising taxes on the wealthy to pay for education, climate, paid-leave, childcare and other measures.

It also follows a recent ProPublica report that Peter Thiel, a PayPal co-founder, owns a Roth IRA that grew to $5 billion in 2019, up from less than $2,000 in 1999.

Some Democrats used that report as evidence that the rich are using IRAs as a tax shelter instead of an account in which to build a nest egg. Others, however, don’t think account owners should be punished for amassing wealth within the retirement system’s legal guardrails.

“[Democrats] have this broad idea that the wealthy are taking advantage of the system and not paying their fair share [of taxes],” according to Albert Feuer, an employee benefits and estate-planning attorney in Forest Hills, New York. “That’s obviously a question of your sense of fairness and equity.”

Unknowns

Democrats’ draft list doesn’t provide some key details, such as how a proposal would require account holders to withdraw funds or whether it would apply to both traditional and Roth accounts.

A mandatory distribution from a pre-tax account would require account owners to pay tax on the withdrawal. Distributions from Roth IRAs would be tax-free, but future earnings on those funds (dividends, for example) would incur tax.

How many mega IRAs are there?

More than 28,600 taxpayers held IRAs larger than $5 million in 2019, according to a Joint Committee on Taxation analysis published in July.

They account for less than a tenth of 1% of the roughly 70 million taxpayers with a traditional or Roth IRA, according to most recent IRS statistics.

These mega accounts hold a total $280 billion, according to the Committee report — or about 3% of the $8.6 trillion in IRAs.

Almost 500 people have IRAs larger than $25 million; the accounts average about $150 million.

Policy proposal

Sen. Ron Wyden, D-Ore., and Sen. Elizabeth Warren, D-Mass., speak to reporters at the U.S. Capitol on July 21, 2021.
Anna Moneymaker | Getty Images News | Getty Images

Limiting the size of big retirement accounts isn’t a new concept.

President Barack Obama proposed capping IRAs at $3 million in his annual budget. Sen. Ron Wyden, D-Ore., who currently chairs the Senate Finance Committee, proposed legislation in 2016 that would require Roth IRAs to distribute 50% of balances above $5 million each year.

The Wyden proposal is a good guide for IRA distributions should Democrats drum up enough support for the idea in final legislation, Feuer said.

“A Roth is a fantastic [financial] planning tool,” said Leon LaBrecque, an accountant and certified financial planner at Sequoia Financial Group in Troy, Michigan. “This would diminish it, to a degree.”

New distribution rules might make some financial strategies more popular, like giving withdrawn funds to charity to reduce one’s tax bill, he said.

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