[18642]
March 9, 2005
TO: 529 PLAN ADVISORY COMMITTEE No. 8-05
OPERATIONS MEMBERS No. 3-05
PENSION MEMBERS No. 8-05
PENSION OPERATIONS ADVISORY COMMITTEE No. 8-05
TAX MEMBERS No. 7-05
TRANSFER AGENT ADVISORY COMMITTEE No. 8-05
RE: PRESIDENT’S 2006 BUDGET INCLUDES SAVINGS AND RETIREMENT INITIATIVES
The President’s Budget for fiscal year 2006 reintroduces Retirement Savings Accounts
(“RSAs”), Lifetime Savings Accounts (“LSAs”), Employer Retirement Savings Accounts
(“ERSAs”) and Individual Development Accounts (“IDAs”).1 These proposals are the same as
proposals included in the President’s budget for fiscal year 2005.2
A. RSAs
The President’s RSA proposal is the same as last year’s proposal. Individuals may
contribute up to $5,000 per year (indexed for inflation). This account would not impose age or
income limitations, except that contributions cannot exceed compensation. Like Roth IRAs,
contributions to RSAs would be nondeductible, account earnings would accumulate tax-free
and qualified distributions would be excluded from gross income. The President’s proposals
regarding RSAs would become effective beginning on January 1, 2006.
1. Special Rules for RSAs
Qualified distributions from RSAs could be made after age 58 or in the event of death or
disability. Nonqualified distributions in excess of prior contributions would be included in
income and subject to additional tax. Married individuals could roll amounts from their RSAs
to their spouse’s RSAs. Additionally, the saver’s credit would apply to RSA contributions.
1 Go to http://www.treas.gov/offices/tax-policy/library/bluebk05.pdf to see Treasury’s 2005 Blue Book, General
Explanations of the Administrations Revenue Proposals for Fiscal Year 2006.
2 See Institute Memorandum to 529 Plan Advisory Committee No. 4-04, Operations Members No. 7-04, Pension
Members No. 7-04, Pension Operations Advisory Committee No. 9-04, Tax Members No. 7-04 and Transfer Agent
Advisory Committee No. 15-04 (17042), dated February 4, 2004.
2
2. Conversions to RSAs
The President’s proposal would rename Roth IRAs to RSAs and subject them to the new
RSA rules. Existing traditional and nondeductible IRAs could be converted to RSAs in a
manner similar to current Roth IRA conversions - by taking the conversion amount into gross
income. Conversions would not be subject to income limitations and would not be mandatory.
Taxpayers who convert their IRAs to RSAs prior to January 1, 2007 could include the conversion
amount in income ratably over four years. Conversions made on or after January 1, 2007 would
be included in income in the year of conversion. Existing traditional and nondeductible IRAs
that are not converted to RSAs could not accept any new contributions after 2005.
New traditional IRAs also could be created to accept rollover contributions from
employer plans, but these accounts could not accept any new contributions. Additionally,
individuals could roll over amounts from an employer plan directly into an RSA by first taking
the rollover amount into income. Amounts converted to an RSA from a traditional IRA or from
an ERSA would be subject to a five-year holding period starting with the year of the conversion.
Distributions attributable to either a traditional IRA or ERSA and made prior to the end of the
five-year holding period would be subject to an additional 10 percent early distribution tax on
the entire amount of the distribution.
B. LSAs
The President’s LSA proposal is the same as last year’s proposal. Individuals would be
able to contribute up to $5,000 per year (indexed for inflation). This account would not impose
age or income limitations. Like Roth IRAs, contributions to LSAs would be nondeductible,
account earnings would accumulate tax-free and qualified distributions would be excluded
from gross income. The President’s proposals regarding LSAs would become effective
beginning on January 1, 2006.
1. Special Rules for LSAs
With respect to LSAs, no minimum required distribution rules would apply to the
account owner at any time. The $5,000 contribution limit applies to the individual account
owner and not the contributor. Thus, contributors could make annual contributions to the
accounts of other individuals, provided, however, that annual aggregate contributions to an
individual’s account do not exceed $5,000. Control over an account in a minor’s name would be
exercised exclusively for the minor’s benefit by the minor’s parent or legal guardian until the
minor reached the age of majority (as determined by state law). Married individuals could roll
amounts from their LSAs to their spouse’s LSAs.
2. Conversions to LSAs
The President’s proposal permits conversion of balances in Coverdell Education Savings
Accounts (“ESAs”) or 529 Plans into LSAs. All conversions must be made before January 1,
2007, subject to certain limitations. The amount that may be rolled over to an LSA from a 529
Plan is limited to the sum of (1) the lesser of $50,000 or the amount in the 529 Plan as of
December 31, 2004 and (2) any contributions and earnings to the 529 plan in 2005. Total
3
rollovers to an individual’s LSA attributable to 2005 ESA and 529 Plan contributions, however,
cannot exceed $5,000 plus earnings on those contributions.
Individuals could also choose to continue to contribute to ESAs and 529 Plans as under
current law, and these education accounts could be offered inside an LSA. For example, states
could offer LSAs with the same investment options available under the state’s 529 plan. Such
an LSA would not be subject to the 529 Plan’s reporting requirements, but investors would be
subject to the annual LSA contribution limit. Distributions for purposes other than education
would not be subject to federal income tax or penalties. States could, however, offer state tax
and other incentives for using such LSA funds exclusively for education. Health Savings
Accounts (“HSAs”) and Archer Medical Savings Accounts (“MSAs”) would also be retained as
under current law.
C. ERSAs
The President’s ERSA proposal would consolidate 401(k) plans, SIMPLE 401(k) plans,
Thrift, 403(b) plans, governmental 457 plans, SARSEPS and SIMPLE IRAs into one retirement
plan. 3 The ERSA would be available to all employers and would be subject to simplified
administrative rules that generally follow the rules applicable to 401(k) plans. Employees could
defer wages of up to $14,000 annually (increasing to $15,000 by 2006), with employees aged 50
and older able to defer an additional $4,000 per year (increasing to $5,000 by 2006).
The maximum total contribution (including employer contributions) to ERSAs would be
the lesser of 100 percent of compensation or $42,000. ERSA contributions could include pre-tax
deferrals, after-tax employee contributions or Roth-type contributions, depending on the design
of the plan. Distributions of Roth-type and non-Roth after-tax employee contributions would
be excluded from income. All other distributions would be included in income.
ERSAs would be subject to simplified discrimination testing. Existing 401(k) and Thrift
plans would be renamed ERSAs and could continue to operate as under current law, subject to
the simplified ERSA rules. Existing SIMPLE 401(k) plans, SIMPLE IRAs, SARSEPs, 403(b) plans
and governmental 457 plans could be renamed ERSAs and become subject to the ERSA rules; or
these plans could continue to exist separately but could not accept new contributions after
December 31, 2006. Special transition rules would apply to collectively bargained plans and
plans sponsored by state and local governments. This proposal would become effective for
years beginning after December 31, 2005.
D. IDAs
The President’s budget for fiscal year 2006, like last year’s budget, expands the
attractiveness of IDAs, a savings vehicle designed to encourage savings among lower income
individuals. IDAs are accounts that would provide dollar-for-dollar matching contributions up
to $500 for single filers with incomes below $20,000, joint filers with incomes below $40,000 and
head of household filers with incomes below $30,000. Individuals between the ages of 18 and
60 who are not dependents or students would be eligible to establish an IDA. Matching
3 Rules applicable to defined benefit plans would not be affected by the ERSA proposal.
4
contributions would be supported by a 100% tax credit given to sponsoring financial
institutions that provide savings matches to account holders. The proposal also includes a $50
per account credit for financial institutions to cover the costs of maintaining, administering and
providing financial education with respect to IDAs.
Contributions to IDAs would be non-deductible and earnings would be taxable to the
account holder. Qualified withdrawals of contributions and matching funds would be
permitted for higher education, first-time home purchases and business capitalization.
Nonqualified withdrawals of matching funds are not permitted and nonqualified withdrawals
of participant contributions could result in forfeiture of matched funds. The credit could
generally be claimed for taxable years ending after December 31, 2006 and beginning before
January 1, 2014.
Lisa Robinson
Associate Counsel