Mega-IRAs over $5 Million May Face New Rules Under Democrats

Oct 25, 2021 | Blog

If you are considering tax planning strategies, you may be interested to know that Democrats might be changing the regulations for mega individual-retirement accounts valued at $5 million or more. The goal of these changes is to help finance their augmentation of the country’s safety net.

According to CNBC, these types of accounts fall into tax categories that Democrat Congress members are eyeing up to help amass funds for a spending measure totaling $3.5 trillion.

Distribution Tied to Account Value Instead of Age

The policy requires taxpayers to distribute balances exceeding specific thresholds. According to tax attorneys, the policy in its entirety is still being drafted, but will be formally pitched in the Senate or House in the future. The rule would function as a kind of minimum distribution requirement and would be tied to the value of the account as opposed to age.

An exact threshold was not mentioned specifically, according to CNBC, but suggested limits will likely be somewhere in the neighborhood of $5 million. The number of mega IRA accounts valued at $5 million or more have tripled in the past decade, while the average middle-class account balance is $39,000. The idea on which the policy is based is part of a more general effort to raise taxes on the rich to fund childcare, paid leave, climate, and education.

Democrats Claim the Rich Use IRAs as Tax Shelters

Tax lawyers have learned that Peter Thiel, co-founder of PayPal, was mentioned in a ProPublica report regarding his ownership of a Roth IRA that grew from $2,000 in 1999 to $5 billion as of 2019. Certain Democrats pointed to that report as proof that IRAs are being used by the rich as tax shelters, rather than to amass a nest egg. There are others who believe account owners should not be penalized for accumulating money within the legal guidelines of the retirement system.

Some Democrats believe that the rich are not paying their fair share of taxes, but rather are taking advantage of the system. Although accumulating millions in mega IRA accounts will not help with back taxes or other tax problems, if certain taxpayers manipulate the guidelines, they may be able to effectively use IRAs as tax shelters.

Some key details are not provided by the Democrats’ draft list, though, such as how account holders would be required to withdraw funds and if the new regulation would apply to traditional and Roth accounts equally. Ultimately, however, mandatory distribution would result in the owners of the accounts having to pay tax on withdrawals.

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Mega IRAs in the United States

According to an analysis published in July by the Joint Committee on Taxation, in 2019, over 28,000 taxpayers owned IRAs worth more than $5 million. According to the Internal Revenue Service’s most recent statistics, these accounts make up less than one-tenth of one percent of the approximate 70 million taxpayers with a Roth IRA or traditional IRA. The grand total of these mega accounts is approximately $280 billion. Approximately 500 individuals have IRAs totaling over $25 million, and placing limits on the size of mega retirement accounts is not a new idea.

When he was president, Barack Obama suggested a $3 million cap on IRAs in his annual budget proposal. In 2016, Senator Ron Wyden (D-OR) proposed legislation requiring Roth IRAs to distribute half of the balances above $5 million on an annual basis. Wyden currently chairs the Senate Finance Committee.

New Distribution Rules May Increase the Popularity of Certain Financial Strategies

Leon LaBrecque, a certified financial planner and accountant in Michigan, said that Roth is a great tool for financial planning, and the Democrats’ proposal would, to a degree, diminish it. He also stated that the new distribution rules may increase the popularity of certain financial strategies, such as withdrawing funds and giving them to charity to ultimately lower the filer’s tax bill. Anyone who is concerned about tax penalties, new regulations, or management of an IRA should speak to an experienced attorney for guidance.