DLC | Blueprint Magazine | June 30, 2003 Building a Real Investor Class Instead of the class war President Bush is fighting for the wealthy, we should help all Americans save. By Gene Sperling Table of Contents To hear the Bush administration tell the story, its victory in Congress reducing the tax on stock dividends and capital gains is evidence of its commitment to America's emerging investor class. Never mind that most middle-class investors will receive little or no benefit from the new law. The administration seems intent on falsely packaging what Warren Buffett has aptly called "class welfare" for the wealthiest as aid for the average investor. Between the dividend and capital gains tax cuts and the eventual complete repeal of the estate tax -- President Bush's other major class welfare initiative, repackaged as a crusade on the "death tax" -- we could be forgoing $100 billion a year by 2013 in tax dollars to reward only the wealthiest of America's investors. Still, it is not enough to simply expose the fallacy of Bush's agenda. The better course is to present a progressive alternative that would promote investment, savings, and wealth creation for every American. To that end, here's an idea that is bold and simple: a program of universal 401(k) accounts that would help all Americans build a better future for themselves and their children. Here's how it would work: Middle-income and working poor families, who often fall through the cracks in our wealth creation and retirement savings systems, would be given the opportunity to open new tax-deferred retirement savings accounts. They would be eligible for up to $1,000 in matching funds for savings they contributed, provided through refundable tax credits. For low-income families, the government could provide a 2-1 match; for more moderate-income families, it could be a 1-1 match. Under this plan, a family eligible for a 2-1 match could accumulate a nest egg of $190,000 simply by contributing $500 a year for 40 years, assuming a 5 percent rate of return. When we look beyond the rhetoric, it is clear that the Bush tax changes will do little to plug the dramatic holes in our investor class. While much is made of the demographic fact that more than half of all Americans now own stocks, the typical investor in the middle of the income distribution scale has fairly small holdings -- about $15,000. Nearly half of Americans have no savings for retirement. Some 92 percent of the working poor -- and 74 percent of all Hispanic workers -- lack even an employer-provided retirement account. And a disturbing 86 percent of part-time workers and 83 percent of employees working in small firms have no 401(k)-type account. In other words, most American workers remain dependent on Social Security, meager savings, and the equity accumulated in their house for retirement, if they can even afford to retire. One of the main reasons that so many Americans lack significant investments, beyond the fact that it takes nearly all of what many families earn to live, is that our system for encouraging savings and wealth creation is completely upside-down. Because the only tool our nation employs to encourage savings is tax deductibility, the more you earn, the easier we make it to save; the more you struggle to make ends meet, the more we tell you, you're on your own. For instance, if you and your spouse make $500,000 a year and are in the 35 percent tax bracket, you get an initial 35-cent tax break for every dollar you save, which expands as the dollar accumulates interest without being taxed. If you make $50,000 and are in the 15 percent bracket, you start with 15 cents in tax breaks on every dollar saved; but if you are a hard-working family of four making $25,000, and one of the 33 million tax filers who do not make enough to owe income taxes, you get nothing -- not a penny's inducement to save. As a result, of the $125 billion in revenue the government forgoes each year to subsidize tax-deferred savings vehicles, only 2.1 percent goes to the bottom 40 percent of workers. The Bush plan does nothing to address this fundamental problem. The new law provides no new incentives for those who are outside the investor class to begin saving and accumulating wealth. Indeed, more than four out of five Americans will receive absolutely no benefit from the lower taxes on dividends and capital gains, because they either lack investments or they hold them in tax-deferred accounts. Nor does the new Bush proposal to create Lifetime Savings Accounts (LSAs) provide any new incentives for those left out. Even though only 3 percent to 5 percent of Americans contribute the maximum allowable amount to their individual retirement accounts (IRAs), Bush's LSAs seek to increase the contribution limits, giving this group new tax preferences while doing nothing for the other 95 percent. A universal 401(k) plan, on the other hand, would help turn our savings incentive system right side up. By relying on matches -- provided as refundable tax credits -- a universal 401(k) would provide incentives to save for those who need them most. The prospect of generous matches would give families who don't save a compelling justification to do so and offer an important incentive for middle-class families to save more. In addition, because these new accounts would provide consistent savings incentives independent of existing employer-sponsored plans, they would ensure much-needed continuity and security to women -- and an increasing number of men -- who periodically leave the workforce to raise children, as well as to part-time and small-business workers. Anyway you slice it, the Bush plan is terrible savings policy. In addition to the devastating impact the Bush tax cuts will have on our long-term budget deficits and national savings, there is no evidence to suggest that the administration's savings proposals geared toward the well-off will actually increase private savings. Numerous studies show what common sense dictates: Better-off people tend to respond to new incentives by shifting existing savings into tax-favored accounts rather than actually saving more. A universal 401(k) plan, by contrast, would truly increase private savings by first bringing people who are not saving into the process of wealth creation, and then offering an incentive for small savers to increase their savings. Those who wanted to devote to deficit reduction more of the savings that would result from rolling back regressive Bush tax cuts could initially target this new savings proposal at the most hard-pressed working families, or phase it in over a number of years. The Bush tax cuts, if made permanent, will drain more than three times the savings needed to make Social Security completely solvent. While this historic fiscal recklessness may have killed off the chances of Social Security reform for years to come, a universal 401(k) could be a politically acceptable interim step. Democrats should support this progressive universal pension as an addition to Social Security's guaranteed benefit structure. Republicans should accept it as a chance to promote individual savings. While a universal 401(k) is not a substitute for Social Security reform, it would ensure that as Washington continues to fight over reform, we would be helping tens of millions of Americans and the nation as a whole better prepare for the baby boom retirement challenge. If universal 401(k)s are added to the current pension system, they should be made portable and should be carefully coordinated so as not to encourage employers who are offering plans now to drop that coverage. Alternatively, the generous progressive matches from a universal 401(k) plan could serve to strengthen broader simplification efforts, such as the "universal pensions" advocated by Paul Weinstein of the Progressive Policy Institute, by providing even bolder encouragement for more families to save and engage in the process of wealth creation. Either way, the new accounts should be administered by private-sector firms that offer individuals a limited number of broad-based investment options. We should also consider an efficient thrift savings plan, an option federal government workers now have. Finally, implementing a universal 401(k) should not require increasing taxes or driving up the deficit. Democrats could simply argue for funding this effort by transferring to it a portion of the recent tax cuts for dividends, capital gains, and complete estate tax repeal. This would force the right question for America's investor class into the policy debate: Do we want to direct $100 billion a year to reward a handful of already wealthy investors, or do we want to promote an agenda to help 100 million more Americans become new or stronger members of the investor and wealth-creation class? Gene Sperling, a contributing economics editor to Blueprint and senior economic advisor to the DLC, was President Clinton's national economic adviser. He is also a contributing editor for Bloomberg Business News.