Update IRAs to encourage savings


EVERYONE HAS heard it before, and it has been repeated so often that it's almost a cliche. Like all cliches, it has its basis in the truth. Americans are not saving enough.

With the future of Social Security in doubt and Americans living longer and healthier lives, the estimated dollar figure needed for a comfortable retirement nest egg has increased dramatically.

Despite all the evidence, Americans are not adequately preparing for their retirement years. In fact, it is estimated that most Americans only put away about one-third of what they'll need for retirement.

Economists, members of Congress, federal officials, columnists and opinion makers all agree: Americans must be encouraged to save more.

Some members of Congress are trying to do something about it. There are a number of pending bills that would increase the Individual Retirement Account (IRA) contribution limit from $2,000 to $5,000 a year. Common-sense proposals in the Senate and House -- which enjoy broad support from both sides of the aisle -- would go a long way toward addressing the serious shortfall in retirement savings.

The IRA is a good deal -- there's no simpler way to describe it. IRAs give individuals two opportunities to build retirement wealth.

With the traditional IRA, individuals are allowed to make an annual, tax-deferred contribution of $2,000 to an IRA. The Roth IRA works a little differently, providing its tax break on the back end -- at retirement age there are no taxes on the earned dividends built up over the years through compound interest. Either way, it's a great incentive to save. Individuals can build up a retirement nest egg while at the same time enjoying a nice tax break.

The only problem is that IRAs have not kept pace with the times, the rate of inflation, or the cost of living. When IRAs were created in 1974, the contribution limit was $1,500. It was increased to $2,000 in 1981 and has remained unchanged since then. The IRA cap is nearly 20 years old. Simply put, the IRA has lost value because $2,000 doesn't buy in 2000 what it did in 1981.

Congress is well-positioned to take action this year on raising the IRA contribution cap, and it should.

Increasing the contribution limit to $5,000 would be a good first step, but what is really needed is a long-term fix. Legislation calling for periodic increases in the contribution cap is long overdue. The value and attractiveness of the IRA as a savings vehicle would be severely limited if another two decades pass before a subsequent adjustment is made. An inflation-indexed mechanism that raises the cap based on increases in the cost of living would ensure that IRAs maintain their real dollar value.

Congress should also consider adding a periodic adjustment feature to the income limits that govern IRA eligibility.

While the income limits for deductible IRAs will rise gradually over the next few years, they will continue to restrict saving by middle-income workers if not kept in line with increases in inflation. Other governmental programs, as well as income-based limits for employer-sponsored pension plans feature automatic adjustments. IRAs should be given equal treatment.

It's high time the IRA was brought into the 21st century. Raising the IRA contribution limit will help low- and middle-income taxpayers save more for retirement by making the accounts more attractive and providing an increased tax incentive. For half the work force not currently participating in an employer-sponsored pension plans, the IRA is the only tax-favored retirement savings alternative.

In addition to increasing the IRA contribution cap, Congress should also provide for "catch-up" contributions, which would allow those who were unable to contribute earlier in their careers to have the opportunity to make up for the years they missed. Allowing workers to make additional contributions beyond the cap once they've reached age 50 makes good sense.

Lifting the cap and providing for "catch-up" contributions will make IRAs even more attractive. These common-sense changes will boost IRA participation; the recent introduction of the Roth IRA attracted a vast number of new investors.

The IRA is a terrific savings vehicle. By bringing the IRA into the 21st century, we can encourage more Americans to take advantage of it and get started on building a firm foundation for a secure retirement.

James W. Brinkley is chairman of the Securities Industry Association, which represents more than 750 firms engaged in all markets and all phases of corporate and public finance. He is president of Legg Mason Wood Walker Inc., based in Baltimore.

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