Congress Sends President Tax Bill Expanding IRAs, Reducing Capital Gains Tax Rate

Washington, DC, August 1, 1997 - On July 31, the House (by vote of 389 to 43) and the Senate (by a vote of 92 to 8) approved the "Taxpayer Relief Act of 1997." President Clinton has indicated that he will sign the bill approved by the Congress.

The bill expands savings opportunities for mutual fund shareholders through the following provisions:

IRA Expansion: New Nondeductible Accounts
New nondeductible IRAs called "Roth IRA accounts" would be established with income eligibility limits of $95,000 for individuals and $150,000 for couples. (The present-law nondeductible IRA would be retained for persons not eligible for Roth IRA accounts.) Contributions to a Roth IRA would be nondeductible. However, withdrawals from the account would not be included as income or subject to a 10-percent early withdrawal tax if the individual has established an account that is at least five years old and withdrawals are either: 1) made after the individual attained 59½, became disabled, or died; or 2) made for a first-time home purchase. Withdrawals for higher education expenses would not be subject to the 10-percent penalty, and the expenses could be deducted from income under another provision in the bill. For all other withdrawals, earnings on contributions would be taxable, and the withdrawal would be subject to a 10-percent early withdrawal tax. A rollover from a current deductible or nondeductible IRA into a Roth IRA would only be permitted if the taxpayer's income is less than $100,000.

Increased Eligibility For Deductible Iras
Current income limits for deductible IRA eligibility would double over the next ten years. For individuals, the limit would increase incrementally from the current level of $25,000 to $50,000 in 2005. For couples, the limit would increase incrementally from the current level of $40,000 to $80,000 in 2007.

Penalty-Free IRA Withdrawals
Penalty-free withdrawals from all IRAs would be provided for first-time home purchases and for higher education expenses.

Spousal IRA
An individual's eligibility to contribute to a deductible IRA would no longer be affected by the spouse's coverage under an employer pension plan, if the couple's income does not exceed $150,000.

Education IRA
An Education IRA could be established for a child under age 18, with annual nondeductible contributions limited to $500 per child; contributions of $500 could only be made by individuals with income below $95,000 or couples with income below $150,000.

Capital Gains
The maximum capital gain tax rate for individuals would be reduced from 28 percent to 20 percent (or to 10 percent for persons in the 15-percent income tax bracket). This reduction would be effective May 7, 1997 for assets held at least 18 months, or for assets held at least 12 months and disposed of between May 7 and July 29, 1997. For assets held from 12 to 18 months, the maximum rate would be 28 percent, as under present law. For assets acquired after 2000 and held for at least five years, the maximum rate would be 18 percent (or 8 percent for persons taxed at a 15 percent rate). There is no capital gains indexing provision.

Pension Simplification
The tax bill contains a number of pension simplification provisions, including ones that would: 1) repeal the 15-percent excise tax on excess distributions from qualified retirement plans, tax-sheltered annuities, and IRAs; 2) repeal the 15-percent estate tax on excess retirement accumulations; 3) rationalize the 401(k) and SIMPLE plan contribution schedules to subject both the employees and the employers/partners to the same $9,500 elective contribution limit, regardless of amounts of employer matching contributions (under current law, the $9,500 contribution limit for employers/partners applies to both matching and elective contributions); 4) allow employers to cash out pension benefits of terminating employees-without the employee's consent-where the benefits have present value of less than $5,000 (rather than $3,500, as under present law); and 5) remove existing ERISA requirements for employers without qualified retirement plans and who establish payroll deduction plans for employee IRAs. (The Senate bill provision that would have required spousal consent for 401(k) plan lump-sum distributions is not included in the tax bill sent to the President.)

Simplified Foreign Tax Credit
Mutual fund shareholders generally would no longer be required to fill out a special form to accompany their tax returns in order to take the foreign tax credit.