All Roads Lead to Roth
December 17, 2020 — Boston
Demographics, increasing prevalence in defined contribution plans, and potential tax changes fuel a bullish outlook for Roth accounts
The Roth individual retirement account (IRA) market has exhibited sustained asset growth in recent years, and prospects for this segment are strong, according to the latest Cerulli Edge—U.S. Retirement Edition.
Roth IRA assets grew from $600 billion in 2014 to more than $1 trillion in 2019 and represent the fastest-growing segment of the U.S. retirement market. Further examination shows that investor contributions were the largest individual source of asset growth in recent years, followed by market appreciation. Compared with traditional IRAs, Roth IRAs display much stronger organic growth (i.e., growth independent of market performance) and are well positioned for future expansion.
The bullish outlook for Roth IRA rollovers is also supported by demographic factors. According to a Cerulli survey of retirement investors, individuals under the age of 30 are more likely to own a Roth IRA, while those over the age of 50 favor traditional IRAs. “Most Roth owners are in the phase of accumulating wealth for retirement and continue to grow their account balances,” according to Anastasia Krymkowski, associate director. “This contrasts with traditional IRA owners, who are more likely to be drawing down their savings to fund their needs in retirement.”
Meanwhile, Roth options within employer-sponsored defined contribution (DC) plans are increasingly common. Cerulli posits that as more participants accumulate Roth balances in a DC context, Roth IRAs will experience more pronounced growth from rollovers. Indeed, annual rollovers to Roth IRAs have steadily increased over the past decade.
Legislative changes could further motivate individuals to save on a Roth basis or convert traditional balances to Roth. The Setting Every Community Up for Retirement Enhancement (SECURE) Act of 2019, which eliminated the so-called stretch IRA, now requires non-spousal beneficiaries to draw down the entire IRA balance within 10 years of the account owner’s death. This could motivate IRA account holders (especially those with high earning beneficiaries) to favor Roth accounts, allowing for tax-free distributions in the future.
Additionally, President-elect Joe Biden has proposed providing a tax credit (rather than a deduction) to all contributing 401(k) plan participants regardless of income level. Some view this as a potential catalyst for increased Roth 401(k) contributions. “Higher-income individuals, who would no longer benefit from a sizable reduction in taxable income, may switch their savings basis from pre-tax to Roth,” adds Krymkowski. While elements of Biden’s proposed tax plan remain uncertain, Cerulli believes that retirement industry constituents should nonetheless consider the implications of potential revisions to the tax code.
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