Tax-Deferred Retirement Saving

Abstract

The authors first observe that both the widespread popularity of saving in tax-deferred retirement vehicles such as IRAs, Keogh plans, and 401(k) programs and the magnitude of the dollar flows into such saving are almost prima facie evidence that at the margin they provide significant gains over saving in traditional taxable accounts, at least for those wanting to defer some part of lifetime consumption to their retirement years. They focus on the gains arising solely from shifting taxable income from the working (i.e., accumulation) years to the retirement (i.e., distribution) years. They turn to the advantages of tax-deferred investing and to the motivation for focusing on the intertemporal shifting of taxable income. Finally, they propose an informal model of the gains from such income shifting and illustrate the magnitude of the gains for levels of annual wage income ranging from $50,000 to $200,000. They show that the gain (as measured by the difference in after-tax retirement income from tax-deferred and taxable accounts) increases with wage income and ranges from 1.7% to 11.4%. A formal theoretical model is provided in the appendix to the article.