Taxation Of Pension Incomes And Withdrawals

By Chandrashekar (Chandra) Tamirisa, (On Twitter) @c_tamirisa

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Federal government and many states tax pension withdrawals and interest income on savings as income without consideration for life events or macroeconomic conditions such as recessions.

Relevance to the people

1. The savings rate in the United States, personal and retirement, is very low.

2. Savings = Investment (S=I) is an economic identity.

3. National debt and personal borrowing is not income though borrowing in excess of wage increases was encouraged by the Clinton Administration to raise domestic consumption to grow the U.S economy as domestic real investment declined in preference for investing in foreign markets (inflation was low due to cheap imports and foreign economies
which were performing poorly because of economic crises).

4. Contrary to assertive claims foisted as fact by former Federal Reserve Chairman Alan Greenspan and Federal Reserve Economists Steven Oliner and my former supervisor Daniel Sichel, productivity did indeed rise in the United States in the late ’90s (after 1996) but it cannot be attributed to technical change. It could be attributed to wage increases due to the wealth effect (consumer borrowing based on the paper value of assets). I contested the Greenspan claim that the ’90s produced increases in productivity due to information technology in the following paragraph on knowledge management in an internal memo in 2003, in “Fedspeak,” which the Federal Reserve leaked:

“Knowledge Management

The idea that institutional memory can be captured electronically has significant implications for both learning from experience as well as from the experienced. It applies as much to thinking about the complexities of monetary policy as to routine tasks. If the ’90s saw productivity gains through both IT innovation and application for business use primarily fueled by a maturing desktop and later by an inchoate internet, I believe what we have seen, albeit the bubbles of “irrational exuberance”, is only the tip of a large iceberg that is congealing below the surface. Undertaking a knowledge management agenda forces a comprehensive approach to both process (how we do things) and product (how we execute the process) and inherently has the potential to both increase productivity as well as increase cost efficiency. Some project examples at the Board which most of us use every day are R&S Information Portal, SDS, BOND and CDTR, FIRMA, WDF, Peoplesoft HR System, Job Postings and Recruiting databases and ITB. One can easily envision a melding of all these with standardization and phased integration and improvements both into a standard set of processes as well as seamless products. Further, such a convergence can make knowledge mobile reducing the cost of labor mobility except when most necessary.

I realize that there are many small steps that need to be taken to achieve this goal but the proces of thinking comprehensively about it (i.e., minus the bureaucratic walls) will progressively make interaction and work life at the Board as seamless and flexible as the envisioned product.”

This prediction of mine in 2003 about technical change is now being realized through service-oriented architectures (SOA) in Silicon Valley. Since then considerable work in the area of productivity and business organization has been done at the Massachusetts Institute of Technology (MIT) by Professor Erik Brynjolfsson.

Productivity of the US economy as a whole due to IT may be on the rise now, but it is still not helping ameliorate inflationary pressures because of countervailing structural forces which are depressing the potential growth rate of the US economy. It is clear, however, that a reprise of the ’90s wealth effect in Silicon Valley is maintaining high levels of productivity in the IT sector.

5. Debt/Income ratios are high.

6. The government taxes interest on savings, a disincentive.

7. The government taxes capital gains of investors, many of whom are consumers or individual investors, upon the sale of financial and other assets such as real estate which produce the gains or returns (although the double-taxation of dividend payouts by corporations and the corporate profits which produce those dividends for shareholders has been eliminated). This is a disincentive.

8. Pension incomes, including social security, are usually taxed, but are being taxed along with pension withdrawals, and without regard to life events such as death, marriage, and divorce which are expensive.

9. Tax-collecting agencies can become abusive during economic downturns. They understand procedures but not the policies behind taxation.

What the States, the Congress and the White House Should Do?

1. Reform pension income and withdrawal taxation to suit life circumstances.

2. Comprehensively reform the tax code (on Amazon). The following proposal has been circulating in the United States Department of the Treasury since 2007:

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