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Are pensions worth the cost?

Listed author(s):
  • Alicia H. Munnell

The U.S. Treasury estimates that personal income tax receipts in fiscal 1992 would be $51 billion higher without the special provisions accorded employer-sponsored pension plans. Pension provisions, in fact, were the single largest item in the tax expenditure budget. Like most other tax expenditures, and unlike direct expenditures, the revenue loss from favorable tax provisions for employer-sponsored plans is not submitted to a formal and systematic review each year by Congress. Therefore, the question of whether taxpayers are getting their money’s worth from this very large implicit outlay should be addressed periodically. ; To that end, this paper first takes a closer look at the tax expenditure for employer-sponsored pensions--a number that has been the subject of considerable controversy. After establishing that the forgone revenues are substantial no matter how they are estimated, the following sections explore whether the expenditures produce the desired results. Section II addresses the saving issue and concludes that support for employer-sponsored pension plans should not rest on the assumption that they increase national saving. ; The last three sections assess the effectiveness of pensions as a provider of supplementary retirement income. They discuss three serious weaknesses with the current system. Section III focuses on the coverage problem; only 46 percent of the private work force is currently covered and coverage continues to decline. Section IV explores the erosion in the value of benefits experienced by mobile employees under defined benefit plans. Section V addresses the lack of cost-of-living adjustments to annuity payments to retired employees, under either defined benefit or defined contribution plans. ; The conclusion that emerges from this review is that despite a myriad of legislative changes, all of which combine to increase the likelihood that persons covered by pension plans will actually receive benefits, the U.S. pension system is still a very erratic and unpredictable way to provide retirement income and it benefits only a privileged subset of the population. In short, the $51 billion is not well spent. If the government is going to use taxpayers’ money to subsidize supplementary retirement income, it should do so in a fashion whereby all citizens enjoy the subsidy. If this seems unrealistic in the current environment, the alternative is to recoup the subsidy. One way to accomplish this goal would be simply to levy an annual tax of roughly 2.5 percent on the stock of pension assets; of course, numerous other approaches are possible. The important message is that it is time to explore the alternatives for revising the tax treatment of employer-sponsored pension plans.

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Paper provided by Federal Reserve Bank of Boston in its series Working Papers with number 91-2.

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Date of creation: 1991
Publication status: Published in National Tax Journal, May 9 - 10, 1991 XLIV, no. 3 (September 1991): 393-403.
Handle: RePEc:fip:fedbwp:91-2
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  1. Alicia H. Munnell & Joseph B. Grolnic, 1986. "Should the U.S. government issue index bonds?," New England Economic Review, Federal Reserve Bank of Boston, issue Sep, pages 3-21.
  2. Alicia H. Munnell & Frederick O. Yohn, 1991. "What is the impact of pensions on saving?," Working Papers 91-5, Federal Reserve Bank of Boston.
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