Tax solution is worse than the problem

That's why the presidential candidates need to remember that all the king's horses and men could not repair the nation's broken retirement nest eggs overnight, and that quick relief from required retirement-savings withdrawals will not help the people who actually need assistance.

The proposals currently swirling around Washington would relax minimum-distribution rules for retirement accounts are impractical, likely to be unfair and are a more a last-minute political football than a real solution.

To see why that is, you have to start out with the problem currently facing seniors aged 70 1/2 and up.

Internal Revenue Service rules require that tax-deferred savers must take a "required minimum distribution," or RMD, each year, cashing out a piece of their individual retirement accounts or 401(k) plans and paying taxes due on the amount withdrawn.

The requirement is designed to make sure that Uncle Sam gets a piece of the tax deferral every year, as a saver who has amassed more funds than they need to live on might otherwise avoid paying taxes on those IRA dollars indefinitely.

RMD rules are confusing, but one key issue is that the annual minimum withdrawal is based on the value of your account at the end of the previous year.

News flash: The stock market has tanked in 2008. Many investors are just now realizing that, despite their current losses, they must withdraw funds as if they still had last year's higher account balance. That means that this year's minimum withdrawal represents a larger percentage of their holdings.

With that in mind, Republican presidential nominee John McCain has called on the Treasury Department to suspend the 70 1/2 distribution starting point for 2008 and 2009. Democratic nominee Barack Obama has gone the other way and called for earlier access to retirement savings, hoping to let people withdraw up to 15% of their retirement funds, to a maximum of $10,000, without paying the 10% tax penalty for early withdrawals this year or next. (Income taxes would have to be paid on the withdrawals.) See related story.

In addition to the candidates' proposals, House Education and Labor Committee Chairman George Miller and Rep. Robert Andrews (D-N.J.), have called for the Treasury Department to suspend tax penalties for those not taking their RMD, and plan to push legislation that would exempt seniors with up to $200,000 in retirement accounts from mandatory minimum distributions.

Among the many groups backing this idea is the AARP, which submitted a letter to the Treasury urging a temporary freeze on mandatory retirement account withdrawals. And Congressional Democrats have hinted that this kind of idea might be part of a post-election stimulus plan.

"Fairness dictates that we provide relief to these individuals who have no other recourse than to use their retirement savings to meet current living expenses," Bill Novelli, AARP's chief executive, said in a letter to Mr. Paulson.

Poppycock.

Yes, required distributions will be bigger than if they were based on current valuations, but any relief will only go to those seniors who don't need to withdraw the money in the first place, not the person experiencing problems the way Novelli was describing.

Seniors in desperate straits -- the ones who truly need to cash out -- will get no relief. If they must withdraw dollars to live -- whether it's the RMD amount or much more - they're on the hook for the taxes. Suspending the IRS requirement makes no difference if your life requires that the money come out.

"The situation is unpleasant, but it's not unfair," said Ted Benna, the benefits consultant who founded the first 401(k) plan. "When the market was up, the same people benefited from the distribution rules, which had them take out less money during those times. ... Suspending distributions doesn't make the problem go away, it will simply come back worse at a later point in time."

And while legislators present scary images of investors being "compelled to sell," the truth is that distributions don't require a sale. Fund firms and brokerage companies allow shareholders to move assets from an IRA into a taxable account without selling. Taxes are due on the value of the assets, but liquidation is not compulsory.

Further, rushing to enact this kind of fix is impractical if not unfair. Many seniors have already taken distributions for 2008; those people would either miss out on the quick-fix tax break or have to put the money back on account, something for which neither the individual nor their investment companies are prepared.

Said retirement-planning specialist Ed Slott of E. Slott & Co.: "Nobody likes to pay taxes before they have to, but these changes won't help the people who have real financial troubles and have to withdraw their retirement savings. They'd only help the people who can afford to keep their money at work but who don't want to pay taxes on it now."