The era of do-it-yourself retirement planning has moved a big step closer. Until about five years ago, saving for retirement for some people meant signing up for the company pension and waiting for social security checks.
Later, individual retirement accounts showed people how they could work toward a more secure retirement with the help of tax-deductible savings.
Now, we have a new tax law that has taken away one of the IRA's biggest tax breaks, made some employer-sponsored savings plans less attractive, but left other options available.
As a result, it has become even more important to take an active role in developing a program for retirement savings. Now, your retirement fund might include an IRA, a company-sponsored 401(k) savings plan, municipal bonds, and an annuity from an insurance company, as well as a company pension and social security.
Much has been written about the changes in the IRA, particularly the elimination of the deduction for many people. But a number of changes have also been made in two other popular retirement-savings plans: the 401(k) and the 403(b). A few of the new rules for these two plans still have to be worked out, but most of the changes are fairly clear.
One of the biggest changes in the 401(k) cuts the amount of money you can sock away from $30,000 a year to $7,000. For 403(b) plans offered to employees of charitable organizations, public schools, colleges, and universities, the limit drops to $9,500. The $7,000 401(k) limit will increase eash year by the amount of the consumer price index, until it catches up to the $9,500 level. Then, both the 401(k) and the 403(b) limits will advance with the price index.
For ``90 percent of the people, this won't matter,'' says Chris Parsons, a tax partner with Deloitte, Haskins & Sells. These people could not afford to do without $7,000 or $9,500 of their wages. But for others, it might matter a great deal. Mr. Parsons gives the example of a couple whose children are grown, have the mortgage paid off, and face few major expenses. Now, the wife returns to work, perhaps to teach.
Before tax reform, they could put a large chunk, perhaps all, of one spouse's salary in a 401(k) or 403(b) and rapidly add to a retirement nest egg in the years before retirement.
``It does make it harder to save for retirement,'' notes John Dirlam, a principal with Towers, Perrin, Forster & Crosby, a benefits consulting firm. Congress has ``undercut a sound goal: to encourage people to save for their own retirement.''
Another way this undercutting has been done, he adds, is to link 401(k) and 403(b) plans to the IRA. For every dollar you put into one of the employer-sponsored plans, that's a dollar you can't put into an IRA. So if you put $2,000 or more into a 401(k), for instance, you can't have an IRA. If you're married, and only one spouse is putting more than $2,000 into a 401(k) or 403(b), neither of you can have an IRA.
In addition to deposit limits that are still more than three times as high as the IRA, there is another major advantage to 401(k) and 403(b) plans, Mr. Dirlam observes. ``One thing that may save the 401(k) and 403(b) is the employer match, where the company matches all or part of the employee's contribution. If it weren't for that match, I think participation would drop dramatically.''
Employers may contribute up to 25 percent of taxable compensation, or $30,000, whichever is less, though most employer contributions are in the 1 to 5 percent range.
The tax law also makes it somewhat harder to withdraw or borrow from these plans. After 1988, withdrawals will be limited to the amount you've put into the plan, not including interest, dividends, or your employer's contribution. The purpose of early withdrawals is limited to hardship: medical expenses, education, home purchase.
As for borrowing, Parsons points out, that's still possible from 401(k) and 403(b) plans, but for so-called ``key'' employees who own or have a substantial say in management, the interest is not deductible. Also, you can't borrow more than $50,000 in any 12-month period. ``That's to keep people from churning the money,'' Parsons says.
With all these changes, plus the fact that IRA contributions will be fully deductible only for couples earning less than $40,000 and singles earning less than $25,000, many people will have to begin looking for long-range incentives to save for retirement.
``Congress is saying the 401(k) and 403(b) in the future are not intended to be savings vehicles; they're intended to be retirement vehicles,'' Dirlam says.
``Tell that to a 30-year-old and it doesn't cut much ice.''
What will cut ice with a 30-year-old, however, is saving taxes, and there are still several places where you can build a retirement fund and avoid the tax bills.
First, even if you can't deduct a penny of an IRA contribution, if you or your spouse aren't putting more than $2,000 into a 401(k) or 403(b), the IRA is still worth the trouble. Assuming an 8 percent return, tax-free compounding and reinvesting will add about a third to what someone in the 28 percent bracket would get in a fully taxable account.
A portfolio of municipal bonds or a no-load municipal bond mutual fund may be even better than an IRA. With munis, you never owe any taxes on the interest and you can take the money out anytime without withdrawal penalties. With their high current rates, munis often outperform taxable investments.
Like the IRA, annuities also offer tax-free growth, and there is no limit to how much you can invest. Also, after five years or so, you can usually get money out without a back-end load. Under the new tax law, however, annuities now share with IRAs a 10 penalty for withdrawals before age 59.