One of the problems with the economy is that Americans don't save enough money. As a result, the nation runs largely on debt instead of savings. Yet, instead of encouraging thrift, the U.S. government tends to discourage it by short-sighted tax policies.
The latest example is an amendment tacked onto the new unemployment extension measure recently signed by President Bush. The bill allows the federal government to get its hands on private, tax-free savings accounts.The new law affects profit-sharing and retirement investment plans where both the worker and the employer make contributions. Such plans are tax-free until the money is removed upon retirement.
Under the old law, an employee who left a company to take another job could take the money in such a savings plan and reinvest it in a tax-deferred plan elsewhere. If that was done within 60 days, no taxes would be due.
The new law says that if an employee leaves a job, the employer must withhold 20 percent of the amount in the retirement plan as taxes - unless prior arrangements have been made to automatically transfer the money into a similar account immediately. No more 60 days to make the change.
The problem is best described in the following scenario:
1. An employee switches jobs and wants to take the $100,000 in a profit-sharing plan with him to be reinvested in a similar program elsewhere.
2. The government withholds $20,000, so the individual now has only $80,000 to reinvest in a tax-deferred account. In the meantime, the federal government gets to use the $20,000 instead of having it earn interest in a savings plan.
3. The $20,000 would be returned after income tax returns are filed for the year, but only if the entire $100,000 has been reinvested in a qualified retirement plan. Since the person has only $80,000, he would have to come up with the $20,000 difference out of his own pocket.
4. If the person can't afford to make up the difference, the 20 percent held by the government is treated as income and taxes must be paid on it before the money is released.
5. In addition to the income tax to be paid on the $20,000, the individual may also be hit with an "early withdrawal" tax penalty if under age 591/2, even though it was the government that "withdrew" the money and kept it from being reinvested.
In other words, a worker could get punished and lose money for having invested in a company-sponsored profit-sharing retirement plan. What a terrible way for a money-hungry Congress to treat citizens for trying to save.