Obama’s Planned Haircut for Private Sector Workers

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bad_haircutWe all know that Obama hates rich people, probably even the ones that donate to his campaign. After all, how much money does one person really need? According to thehill.com, Obama’s new budget (to be released next week – late, as usual) will put a cap on the amount of money an individual can accumulate in a 401K or an IRA. That cap is whatever number that will provide an annuity to that retiring individual of $205,000 per year, and thehill.com estimates that would be about $3 million accumulated at retirement.

But aren’t there public sector employees (and we all know Obama LOVES those people right?) that get a pension that provides for more than $205,000 per year? Yes, of course. But BHO wouldn’t recommend anything that would hurt these nice people, would he? No, of course not. So how can he put such a limit on retirement plans.

Most public sector employees with retirement plans have “defined benefit” plans. Here’s how these plans work (at least in the public sector). In a defined benefit plan, the worker has a very small percentage (often 0%) of his pay withheld and put into the plan. The monthly draw upon retirement from the plan is based on some formula. A typical formula might be that retiree gets a monthly amount that is equal to a percentage (often something near 100%) of the average of his last 36 months of earnings before retirement (which are likely his highest earning months, right?).

The municipality for which the person works makes deposits to the fund trustee. In a perfect world, the municipality would deposit enough to cover these future pension payments. But the required deposit is only an estimate, because no one can be sure how much the trustee will be able to earn when it invests the plan’s funds. Usually the municipality doesn’t deposit enough, though. This results in ‘unfunded pension liabilities’. What happens when the plan doesn’t have enough to fund the currently required payments to retirees? The municipality will need a bailout from taxpayers (so that we get screwed) or it could declare bankruptcy (think Stockton, California).

Normally, when an entity declares bankruptcy, there is a specific order as to who will get screwed. Bondholders are secured creditors and should not be the first on the list of screwees. But a California bankruptcy judge is allowing Stockton to protect retirees’ benefits but screw the bondholders. So a different set of people will get screwed, but NOT the retired public sector workers. Of course not, it’s California. The risk in a defined benefit plan never falls to the retirees, especially in California.

The rest of us schmoes in the private sector most likely have a retirement plan called a ‘defined contribution’ plan. In these plans, an employee withholds a certain percentage of his pay (about 5% to 8% is typical) and contributes this to the plan. In order to encourage the worker to save for retirement, the IRS allows the worker to exclude the amount withheld from his gross income so that he doesn’t have to pay taxes on that amount (yet). This makes sense because the worker didn’t receive this pay (yet). The employer will typically match (approximately) the amount withheld from the employee’s pay and contributes this amount to the plan.

In most defined contribution plans, the worker has a choice (although sometimes it is a limited choice) as to where these funds can be invested. In my case, I have a choice of hundreds of places I can choose to invest my money (including the part that my employer contributed). What if I make a bad decision as to where the investments are placed? I’m screwed, and my monthly retirement benefits will be lower. I am the one who take the risk about the performance of the investments in my plan. But, I like having that control. I worked for a while at a public university in Texas where I was allowed to choose between defined benefit and defined contribution plans. Even there, I chose defined contribution because I recognized that there’s always the chance that (even in Texas) the state might not sufficiently fund the pension plan and default. I trusted my instincts in investments more. If I make good investment choices, I may be able to turn the amount withheld from my pay (plus my employer’s contribution) into a reasonable amount, so that at retirement I can get a reasonable monthly draw.

Get the idea? Defined benefit plan for public sector employees = no risk to the retiree (at least with the current ‘bailout everyone and everything’ mindset). Defined contribution plan = risk to the retiree, but more control over outcomes. Retirees from both the public and private sector will be taxed on the distributions to them when they retire. But for the private sector, about 50% of that amount was his money to begin with. This is NOT true for the public sector employee.

One of the things mentioned in thehill.com article was that the left had questions as to how Mitt Romney was able to ‘squirrel’ so much money away in his IRA/401K (both of which are defined contribution plans). Who freaking cares? As I mentioned earlier, someone good at choosing investments might be able to turn the pay withholdings plus the employer match into a reasonable sum. I bet Romney is pretty good at choosing investments, don’t you?

So, Obama is planning no ‘haircut’ for public sector workers that are paid by taxpayers. Only for us lowly types in the private sector that employ these people. Why is it acceptable for this ‘monarch’ to decide that $205,000 per year is sufficient for me? With all the money printing by the fed (currently at $85 billion per month), I firmly expect hyperinflation to set in. That $205,000 per year might get me a cup of Starbucks coffee when I retire. Another thing we won’t know until we see the complete Obama budget is what will happen if an individual who makes good investment choices ends up with a 401K/IRA that will yield greater than $205,000 per year in distributions. Will the federal government just tax 100% of the excess? You betcha.

But, it’s ONLY an Obama budget. These tend to get how many votes? None to almost done. They serve only to display the Marxist tendencies of the person we have in the Oval. This budget won’t pass. But if we don’t make sure that we retain the house and/or take of the Senate in 2014, then all bets are off!

Thanks @GregWHoward for tweeting me the links I needed.

Follow Gail on Twitter: @AcctgProfTX

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