The Meretricious Myth of Roth IRAs

Meretricious means “based on pretense, deception, or insincerity.” That makes it the perfect word to describe the creation and spread of Roth individual retirement accounts (IRAs), especially the claim that they’re a plus for the Treasury. Just the opposite: the initial boost from Roths is largely a ruse, and the accounts in fact are a fiscal train wreck.

Let’s see what gives the myth a veneer of truth, why it persists, and what needs to happen to stem the losses that Roths are inflicting on the Treasury—and will be inflicting for decades.

The deception began at the beginning. When lawmakers created Roths in 1997, they got around the budget rules by counting incoming revenue but ignoring lost revenue. They counted the upfront tax on Roth contributions, but not the uncollected taxes on the back end. There are no taxes on Roth distributions, and no mandatory distributions at all. Contrary to the myth, the design of Roths effectively guarantees that the Treasury will lose money. Over the last several years, thanks to repeated cases of “pretense, deception or insincerity,” the Treasury’s downstream Roth losses have risen by the tens of billions.

The George W. Bush Administration made the costliest Roth change, removing the income limit for Roth conversions. Conversions turn other retirement accounts into Roths, and were originally limited to persons with adjusted gross incomes under $100,000. Now they’re open to anybody, even the super-rich.

Unlimited conversions were justified, with a straight face, as a revenue windfall for the Treasury. Converters to Roths have to pay taxes on their previously untaxed holdings (both contributions and gains), so the Treasury stood to get an upfront lift. Everybody knew, though, that the ink would ultimately turn deep red. Here’s Howard Gleckman, underlining the point on the blog Tax Vox when the change first took effect: “But in the long run, turning billions of dollars from tax-deferred to tax-free savings will be a huge loser for Treasury. My colleagues at Tax Policy Center figure that, through mid-century, allowing unlimited Roth conversions will reduce federal revenues by $100 billion.”

The certainty of future losses hasn’t stopped Republicans and Democrats alike, including President Obama, from embracing Roth accounts. As part of the 2012 “fiscal cliff” budget deal, Obama opened the door to immediate Roth conversions by accounts that previously couldn’t convert until age 59½. Once again, under the guise of raising revenue, Congress in fact set up the Treasury for untold billions in downstream losses. A 2014 tax reform plan drafted by Republican members of the House Ways and Means Committee tilts even more strongly toward Roths: it would end regular IRAs, cut maximum 401(k) contributions in half, and direct any overages into Roths. In short, mesmerized by the myth, policy makers have promoted a retirement account that creates unlimited Treasury shortfalls.

The accounts are grossly unfair as well. Every other retirement account is subject to minimum required distributions; only Roths are not. Contributions to regular IRAs have to stop once mandatory distributions begin. Roth contributions can continue as long as there’s earned income. There are Roths with balances in the millions, tax-sheltered for decades to come—first for holders, then for heirs.

Congress should call an immediate halt to Roth conversions, the source of the biggest looming Treasury losses. It should also abolish start-up Roth IRAs. Those two steps would end the influx of new Roths, but not the ongoing damage from those already on the books.

Robert McIntyre is the director of Citizens for Tax Justice, Washington, D.C. He’s an expert on tax policy. Gerald Scorse helped pass the capital gains basis reporting bill. He writes on taxes Read other articles by Robert S. McIntyre and Gerald E. Scorse.