Considering how important they are, individual retirement accounts (IRAs) haven’t been around for very long. Before 1875 private-sector pension plans didn’t even exist in the U.S. That’s the year that the American Express Co. created the country’s first plan for elderly employees and those with disabilities.
The history of the IRA is much more recent. IRAs only date back to 1974, nearly a century after American Express began paying retired and disabled workers a small percentage of their pay in the form of a pension.
ERISA and the First IRA
In 1974, in reaction to public concern about the abuse and mismanagement of private pension funds, Congress enacted the Employee Retirement Income Security Act (ERISA), eventually signed into law by President Gerald R. Ford. As with many large government programs, ERISA’s regulatory impact was significant. It covered everything from pension and retirement plans to healthcare plans and more.
One small part of ERISA created the individual retirement account (IRA). Originally only taxpayers not already covered by a qualified employer-based retirement plan could participate. In 1974, you could make a tax-deferred contribution of up to $1,500 or 15 percent of income (whichever was less).
A New IRA Is Created
The IRA created in 1974 eventually became known as the Traditional IRA. Others have been added over the years, including the Simplified Employee Pension IRA (SEP IRA), established as part of the 1978 Revenue Act, signed by President Jimmy Carter on Nov. 6 of that year.
The SEP IRA was designed to be a tax-advantaged retirement plan for the self-employed and for owners of small businesses. Only employers can contribute to their own and their employees’ accounts. The SEP IRA is a form of Traditional IRA with much the same rules and guidelines but higher contribution limits.
ERTA Opens IRAs to All Workers
In 1981, President Ronald Reagan signed the Economic Recovery Tax Act (ERTA), which removed the restriction that prohibited workers who had employer-provided retirement plans from opening an IRA.
ERTA opened the IRA to all taxpayers age 70½ or under. The law also raised the contribution limit from $1,500 to $2,000 plus $250 for a nonworking spouse. That $250 contribution allowance for a nonworking spouse marked the birth of the Spousal IRA.
In 1996, under the Small Business Job Protection Act signed by President Bill Clinton, the Savings Incentive Match Plan for Employees (SIMPLE IRA) was first implemented. This IRA provided for employer matching and contributions to employee IRA plans and served as an alternative to the 401(k) (these had been created as part of the Revenue Act of 1978 under President Carter).
The SBJPA also increased the amount for Spousal IRAs from $250 to the annual limit for working spouses ($2,000 at the time).
Roth and Education IRAs
The Roth IRA came into existence as part of the Taxpayer Relief Act of 1997 and was named for Sen. William Roth (D-Del.). This same legislation also introduced the Education IRA. These two IRAs are alike in the sense that contributions are made with after-tax money, but are tax-free on distribution.
Not surprisingly, funds contributed to an Education IRA were to be used only for educational purposes. The Education IRA is now called the Coverdell Education Savings Account (Coverdell ESA).
Catch-Up Provision and Consumer Protection Act
The Economic Growth and Tax Relief Reconciliation Act of 2001 increased contribution limits and for the first time added a “catch-up” provision for taxpayers age 50 and older. The act also provided for a nonrefundable credit for certain contributions to IRA and 401(k) plans.
The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 added and expanded bankruptcy protection for IRAs, and most recently the Consolidated Appropriations Act of 2016 made qualified charitable distributions (QCDs) for individuals 70½ or older, in lieu of RMDs, a permanent part of the tax code.
Where We Are Today
In less than a century and a half, the U.S. has gone from a country with virtually no long-term financial provisions for retired workers to a whole palette of options. The individual retirement account and its variants make up an important part of the retirement income picture for many citizens.
Consider this: IRAs were originally offered only through banks, and contributions to IRA accounts in the first full year (1975) amounted to $1.4 billion. Recently the Investment Company Institute reported that Americans currently hold more than $8.2 trillion in IRA accounts.