Tax Policy, Lump-Sum Pension Distributions, and Household Saving

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Research Papers

Tax Policy, Lump-Sum Pension Distributions, and Household Saving

April 1995 Number 9507

Author: Angela E. Chang

As of May 1988, over 8 million workers had received their pension benefits as lump-sum distributions (LSDs) when they changed jobs. In 1986 Congress imposed a 10% tax penalty on the amount of LSDs not rolled over into tax-deferred instruments. This paper examines the effects of this tax penalty on the rollover decisions of LSD recipients. The penalty increases the probability of rollover among higher-income recipients; an increase of 1 percentage point in the penalty is estimated to increase the probability of rollover by 1.1 percentage point. However, the penalty has not affected the rollover decisions of lower-income recipients, who are more likely to be liquidity-constrained.

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