The Mysterious 'Sunset' Provision and Gearing Up for Higher IRA Contributions

This week, Gail sheds light on the mysterious "sunset" provision and helps a reader with the task of preparing for higher IRA contributions.

Gail, 

I'm very happy the Tax Act signed by President Bush earlier this year is cutting tax rates and increasing the amount you can contribute to traditional, Roth and Educational IRAs. 

But maybe you can explain something to me: As I understand it, at least some provisions of this act "sunset" at the end of 2010, a little ticking time bomb set in there by those in Congress who would rather spend our money for us (mostly to "buy" votes, but some because they think we're not smart enough to make our own decisions). 

Does this sunset provision just cover estate taxes or does it apply to other areas of the bill also? 

Thanks, Thomas

Dear Thomas,

Tsk, tsk. Do I detect a hint of cynicism creeping into your comments? The short answer is that virtually the entire 2001 Tax Act is slated to expire, or "fade into the sunset," at the end of 2010. Unless Congress acts to extend the provisions in this legislation — either individual sections or the entire act itself — on January 1, 2011, we will revert back to the tax law on the books just prior to the law being passed.

But this is not a case of legislative sleight of hand. Congress is really not trying to make us nuts or pull the political wool over our collective eyes. The fact is, years ago, the Senate passed a measure commonly known as the "Byrd rule," thanks to its sponsorship by Sen. Robert Byrd, D-W.Va.. According to CCH Inc., a provider of tax law information and software, this rule stipulates that if the Senate votes on a bill that has the potential to increase the federal deficit in years beyond those covered in the legislation, it must pass by a 60-vote margin in order to be permanent. So, in the case of the Tax Act, the expiration is automatic.

If you are inclined to delve into this further, check out the following Web site: www.cnie.org/nle/gov-9.html

Frankly, given today's tax-cutting atmosphere and desire to stimulate the economy, it's a pretty good bet that Congress will extend this law. But who knows what the political and economic environment will be like in nine years? On previous occasions, politicians have been known to give something and later take it away. (Remember when IRAs were always tax deductible, regardless of your income?) Or, they might play the class warfare card and decide that "the rich" don't deserve these tax breaks, while leaving them intact for others. However, in my opinion, it would be political suicide to revoke them retroactively.

The point is, because of this element of uncertainty, it is imperative that you take advantage of these lower tax rates while we've got them. And if you want to make sure we don't lose them, start keeping tabs on your Congressional representatives!

Hope this clears things up,

Gail

Dear Gail, 

I have a question regarding the higher IRA contributions allowed in the 2001 Tax Act. 

I will turn 50 in August of 2001. Does that mean I will be able to contribute $3,500 to my Roth IRA for 2002? Does it follow that: 

2003 = 4K
2004 = 4.5K
2005 = 5K
2006 = 5.5K
2007 = 6K 

Thank you very much for your help. 

M.W.

Dear M.W.,

Well, you got the amount right for the first year!

Under the new tax law, beginning with IRA contributions for the 2002 tax year, individuals over 50 can contribute an extra $500 in addition to the regular IRA limits.

This is called a "catch-up" contribution. This amount increases to $1,000 in 2006.

Here's what the IRA limits look like through 2008:

Starting in 2009, the basic IRA contribution amount will be increased in increments of $500 based on inflation. Currently, there is no provision to adjust "catch-up" amounts.

If you have been contributing $166 to your IRA on a monthly basis so you don't have to scramble for the money come April 15th, you need to increase this amount starting in January. In order to meet the $3,000 basic contribution limit for 2002, you should contribute $250/month.

Go for it!
Gail

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The views expressed in this article are those of Ms. Buckner or the individual commentator, and do not necessarily reflect the views of Putnam Investments Inc. or any of its affiliates. You should consult your own financial adviser for advice regarding your particular financial circumstances. This article is for information only and is not an offer of the sale of any mutual fund or other investment.