President Bush's proposals offer flexibility and opportunity.

On January 31, the U.S. Treasury announced that President Bush's proposed budget would include provisions for the creation of three new types of savings accounts. Two of the three, the Lifetime Savings Account (LSA) and the Retirement Savings Account (RSA), are targeted at individual savers, while the third, the Employer Retirement Savings Account (ERSA), is aimed at businesses. If these accounts are enacted into law, they will alter the way people save and will create new financial planning opportunities.

As Financial Advisor went to press, there were indications that the proposed accounts are running into some stiff opposition on Capital Hill. But political tides can often reverse in a heartbeat, particularly if a proposal has widespread public support. Indications are that this one does. A recent survey conducted by the Strong Financial Corp. found that 83% of Americans would use one or more of the proposed accounts if they were made available. An impressive 60% of respondents indicated that the new accounts would help them save more. Not surprisingly, LSAs were the top choice of respondents, with 71.3% indicating they would use them.

With the broad media attention the President's proposals are receiving, it behooves advisors to familiarize themselves with the proposed accounts so that they can answer client questions and contemplate outcomes. Even if the proposals are not enacted in 2003, their instant popularity with the public-not to mention with the bear market-battered financial services industry-virtually guarantees they will resurface again.

Lifetime Savings Accounts

LSAs are the most attractive-and the most controversial-of the three proposed accounts. Individuals of any age would be permitted to contribute up to $7,500 annually (indexed for inflation in future years) with no minimum of maximum earned income limitations. Individuals would be able to contribute on behalf of others, so parents and grandparents could fund accounts for children and grandchildren so long as the amount contributed to any one account didn't exceed the maximum annual limit of $7,500 per account. For example, a grandparent with six grandchildren could contribute $45,000 per year on the grandchildren's behalf to six LSAs.

Like a Roth IRA, savers would contribute after-tax dollars to an LSA (but without any income limits). Earnings on the account would be tax free, with no taxes due upon withdrawal. The unique feature of LSAs is that the money can be withdrawn at any time, tax- and penalty-free. There is no minimum holding period and no minimum age requirement, so the flexibility of these accounts is unparalleled.

In a move to simplify the jumble of tax-advantaged plans existing today, the administration proposes allowing taxpayers to convert Coverdell Education Savings Accounts and 529 plans to LSAs, as long as the conversion takes place by the end of 2003. Medical Savings Accounts (MSAs) also would be eligible for conversion, but taxes would be due since the original contribution was with pre-tax dollars.

There would be no required minimum distribution requirement for LSAs during the account holder's lifetime. The proposal doesn't spell out what would happen upon the account holder's death, but presumably post-death distributions would follow rules similar to those for Roth IRAs.

Retirement Savings Accounts (RSAs)

RSAs are designed for retirement savings. Contributions to traditional IRA accounts would cease after 2003, and Roth IRAs would become RSAs. The contribution limits for RSAs would, like LSAs, be $7,500 per year per person (indexed for inflation), but RSA contributions would be limited by compensation. Spouses would be able to use their combined income so if one spouse earned nothing, and the other earned $15,000, each could contribute $7,500 to their respective account. As with LSAs, there is no minimum age requirement, so if a child earned income of $4,000 from an after school job, the parent or grandparent could contribute $4,000 to the child's RSA.

Traditional IRAs will not disappear anytime soon because taxpayers will not be forced to convert accounts. Furthermore, people will still be able to roll money out of a company plan like a 401(k) into a traditional IRA.

Those who do choose to convert will owe income taxes on the amount converted. Nondeductible contributions to a traditional IRA will not be taxed. The government will not place any limits on the amount converted, and no income restrictions will apply; so any IRA will be eligible for conversion. Conversion proceeds will be taxable in the year of conversion with one exception: Conversions completed before January 1, 2004 will be able to pay the conversion tax over four years.