A new type of retirement savings plan – called the MyRA – was proposed in the State of the Union Address earlier this week. These voluntary plans would allow individuals to contribute after tax dollars to a retirement account that behaves like a Roth IRA. Contributions to the accounts would be invested in government bonds and would earn interest at a rate similar to that paid at the government’s own rate used for its employees in the Thrift Savings Plan. That rate was at 1.89% annualized for 2013 and has averaged just over 3.5% over the past decade or so.
Though the speech touted investors as having doubled their money in the stock market in recent years as a motivation behind offering such accounts to lower earners, it is important to note that at its very best, the TSP type rates would not amount to much growth at all and certainly nowhere near the big increases investors could see in the stock market. The downside risk of stocks would not be a factor since the contributions would not be invested in stocks – but this also means that the potential upside offered by stocks would not exist. Contributors investing long-term for their retirements in these accounts would not see the growth they would need.
The account is touted as offering low income people with an opportunity to save for retirement. The RA account contributions are subject to the same income limitations as the traditional IRA (for example, a maximum of $5,500 annually for those earning less than $129,000 for singles under age 50). So a very wide range of earners, over ninety percent of workers, could be eligible to participate. These accounts would be portable from job to job.
A major benefit of the accounts is their Roth-like treatment, meaning that the appreciation in the account is not subject to income tax so that withdrawals will be tax-free. The proposal would allow the tax-free withdrawals at any time. Of course, contributions come from after-tax dollars and so the contributors will not be able to take the tax deduction as they would for a traditional IRA.
Once the RA account grows to $15,000, though, the account owner must convert to an IRA and the owner may select a financial service provider to work with going forward. This will allow for a much greater range of investments and flexibility for the accounts and will permit access to the possible greater growth offered by the markets. It seems likely that an industry revolving around servicing large numbers of these small IRAs will result since traditional financial advisers will be able to service only those account owners who have substantial additional assets to manage and/or advise on.
Finally, something left to the imagination for these accounts is the treatment of the expenses of maintaining them. In addition to the expense ratio or charge that funds assess on their investors, there will be the reporting and other operational costs of the plans. If the MyRA is to be useful, those costs would have to be somehow kept very low or subsidized in order for the accounts to work. Otherwise, the costs of having the accounts would eat up much of the expected growth for a bond fund.