A Quarter Misuse Retirement Accounts
Published: Thursday, January 17th 2013
Americans have a pretty poor record when it comes to saving for retirement. In addition to the country facing a huge retirement savings gap between what workers have saved and what they need, one-fourth admitted that they have withdrawn money from retirement accounts for non-retirement spending needs.
According to a survey by Hero Wallet, more than 25% of households that use a defined contribution (DC) plan for retirement have breached their balances. Overall, Americans have withdrawn over $70 billion in annual withdrawals. Workers may withdraw money in the case of a loan, but $60 billion is money withdrawn for non-retirement spending that is penalized by the IRS with a tax.
A whopping 75% of Americans that cash-out their entire balance did so not because they were laid off (only 8%), but because they face basic money management challenges.
“…these data indicate that a large and growing share of plan participants are receiving investment advice that a) is misaligned with their investment needs (short-term savings should be in money market accounts, not equities and bonds), b) drives up the cost of their savings (mutual fund fees, trading fees, investment advice, etc, is not needed for short-term savings needs), and c) increases the likelihood of a tax penalty (distribution penalty). For many of these households, they may be better off not participating in the 401(k) until they build sufficient emergency savings.”
The workers most likely to breach their retirement savings accounts are those between the ages of 40 and 49. This age group is usually burdened with mortgages, credit card debt and children in, or on their way to, college.
Households with insufficient emergency savings are far more likely to breach their retirement accounts — 29.8% compared to 14.9% of those with sufficient emergency savings.
While low-income households earning less than $50,000 are far more likely to breach, there is a difference in how those breached occur across income groups. Households with low-income workers are far more likely to cash out (30.1% compared to 17.2% of low-middle, 12.2% of high-middle and just 7.8% of high-income households).
However, loans are most prevalent among middle-income households. A loan is where employers can give plan participants the ability to borrow up to 50% of their DC balance, or $50,000, whichever amount is lower. According to the survey, 16% of households earning between $50,000 and $150,000 were breaching with a loan, compared to 13% of low-income households and 6% of households earning more than $150,000.
“Workers are now broadly voting with their wallets and demonstrating that they need retirement savings for non-retirement needs, in spite of the large, punitive penalties that are associated with most of that withdrawal activity,” according to Hero Wallet.