An increasingly important retirement saving vehicle is the individual retirement account (IRA). Currently, nearly everyone is eligible to contribute to at least one type of IRA. IRA savings is encouraged by two mechanisms—a carrot and a stick approach. First, tax provisions allow individuals to defer taxes on IRA contributions and investment earnings or to accumulate investment earnings tax free, effectively raising the rate of return on IRA contributions. Second, nonqualified withdrawals before the age of 59½ are subject to a 10% penalty tax in addition to regular taxes. The Obama Administration appears to be taking a different tack by proposing additional incentives to saving in existing retirement saving accounts that have proven effective in evaluations. Taxable distributions from traditional IRAs are taxed as ordinary income. Roth (Back-loaded) IRAs

Contributions to Roth IRAs are not tax deductible, but qualified distributions from Roth IRAs are tax free. Tax Consequences of IRAs

The main tax advantages of a traditional IRA are the deductibility of contributions for some individuals and the tax deferment of investment returns on IRA assets. Savings Effects

Higher savings rates can lead to faster wealth and capital accumulation, which can boost future national income. These objectives include reducing the federal budget deficit and federal debt, increasing national savings, and increasing retirement savings. The deductible traditional IRA is more likely to result in more private savings than the Roth IRA, from the perspective of either conventional economic theory or the "psychological" theories advanced by some. While the IRA tax incentives may not have appreciably increased national savings, they have probably increased retirement savings by individuals. Recent Proposals

In 2005, the President's Advisory Panel on Federal Tax Reform proposed consolidating the traditional and Roth IRAs. This plan would create Save for Retirement Accounts (SRAs) to replace traditional and Roth IRAs. These proposals would predominantly benefit higher-income individuals and families who are the ones likely to save. The Administration has proposed incentives to save in traditional and Roth IRAs rather than creating new savings accounts. Many of the provisions in EGTRRA would have expired in 2010, but the Pension Protection Act of 2006 made those expansions permanent.
Current law provides many incentives to promote saving. The goal of these provisions is to increase saving for special purposes such as education or retirement, and to increase national saving. Increased national saving can lead to faster wealth and capital accumulation, which can boost future national income.
An increasingly important retirement saving vehicle is the individual retirement account (IRA). IRA savings is encouraged by two mechanisms—a carrot approach and a stick approach. First, tax provisions allow individuals to defer taxes on IRA contributions and investment earnings or to accumulate investment earnings tax free. Second, withdrawals before the age of 59½ are generally subject to a 10% penalty tax in addition to regular taxes.
There are two types of IRAs: the traditional IRA and the Roth IRA. The traditional IRA allows for the tax-deferred accumulation of investment earnings, and some individuals are eligible to make tax-deductible contributions to their traditional IRAs while other individuals are not. Some or all distributions from traditional IRAs are taxed at retirement. In contrast, contributions to Roth IRAs are not tax deductible, but distributions from Roth IRAs are not taxed on withdrawal in retirement. Expanded contribution limits were adopted in 2001, but were scheduled to expire after 2010; the Pension Protection Act of 2006 made those increases permanent.
In November 2005, President Bush's Advisory Panel on Federal Tax Reform proposed changes to IRAs. The panel's plan would have created Save for Retirement Accounts (SRAs) to replace traditional and Roth IRAs. Additionally, President Bush proposed consolidating IRAs into a Roth-style retirement savings account. The Obama Administration appears to be taking a different tack by proposing additional incentives to increase saving by low- and moderate-income workers in existing retirement saving accounts that have proven effective in evaluations.
Neither conventional economic theory nor the empirical evidence on savings effects tends to support the argument that increased IRA contributions are primarily new savings—often increased retirement saving comes at the expense of reduced nonretirement saving. Roth-style accounts are less likely to induce new private savings than are traditional ones. Furthermore, these proposals would predominantly benefit higher-income individuals and families, who are the ones most likely to save without the added incentive.
Proposals that increase retirement saving among low- and moderate-income workers could be effective in increasing new saving because these workers typically have little or no nonretirement saving to reduce.