The Taxation of Retirement Saving: Choosing between Front-Loaded and Back-Loaded Options

28 Pages Posted: 5 Jul 2001

See all articles by Leonard E. Burman

Leonard E. Burman

Tax Policy Center; Maxwell School; Urban Institute; Syracuse University - Center for Policy Research

William G. Gale

Brookings Institution

David Weiner

Government of the United States of America - Congressional Budget Office (CBO)

Multiple version iconThere are 2 versions of this paper

Date Written: May 2001

Abstract

We examine retirement savers' choices between front- and back-loaded tax incentives, such as traditional and Roth IRAs, respectively. With equal dollar contribution limits, back-loaded plans shelter more funds than front-loaded plans. This implies that Roth IRAs can be the preferred choice even for investors who expect their tax rates to fall in retirement. Empirically, we examine how marginal tax rates have varied between 1982 and 1995 for a sample of taxpayers and calculate both ex ante and ex post effective tax rates on front-loaded IRAs. The average effective tax rate on traditional IRA contributions made in 1982 and withdrawn in 1995 was negative 30 percent. Changes in tax law after 1982 reduced tax rates considerably. Holding tax law constant, the average effective tax rate on IRAs was about negative 11 percent. These results occur because the tax rate in retirement is lower for most people than the rate while working. In contrast, the effective tax rate on Roth IRAs is always zero. Despite the lower average effective tax rate on traditional IRAs, many taxpayers in the sample would have benefited from contributing to a Roth IRA instead of a traditional IRA, due to the difference in effective contribution limits.

Note: This paper prints best in postscript.

Keywords: Taxation, tax policy, taxes and saving, taxes and retirement saving, saving incentives, tax-deferred accounts, Individual Retirement Accounts, Roth IRAs, front-loaded back-loaded, tax deferral

JEL Classification: H20, D12

Suggested Citation

Burman, Leonard E. and Gale, William G. and Weiner, David, The Taxation of Retirement Saving: Choosing between Front-Loaded and Back-Loaded Options (May 2001). Available at SSRN: https://ssrn.com/abstract=272145 or http://dx.doi.org/10.2139/ssrn.272145

Leonard E. Burman

Tax Policy Center ( email )

Urban Institute
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Maxwell School ( email )

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Syracuse University - Center for Policy Research ( email )

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William G. Gale (Contact Author)

Brookings Institution ( email )

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David Weiner

Government of the United States of America - Congressional Budget Office (CBO) ( email )

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Washington, DC 20515
United States
202-226-2689 (Phone)

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