Which is worst for a participant’s 401(k) savings: (a) plan loan defaults; (b) hardship withdrawals; or (c) cashouts upon job change? It turns out to be (c), especially for young employees and about one-fifth of those in the lowest income quartile, the Employee Benefit Research Institute concluded in a new analysis.
The effect from the 401(k) cashouts evaluated turns out to be about two-thirds of total “leakage” impact on retirement savings, EBRI said in a brief July 17 on the job-change cashouts problem. Leakage generally is defined as money that is withdrawn in various ways from 401(k)s before retirement.
Employers are encouraged to design their retirement plans to discourage excessive borrowing (see related October 2013 story) and federal regulations tax early distributions, but plan sponsors have less control over cashouts that occur when participants are not working for them.
The EBRI report indicates that perhaps employers should re-focus their education efforts on messages that help minimize these cashouts, based on their severe implications for retirement readiness.
If Cashouts, Other Leakage Were Not Allowed
EBRI’s analysis looked at the impact on employees with more than 30 years of 401(k) eligibility by age 65 if cashouts at job turnover (along with hardship withdrawals that trigger six-month suspension of contributions and plan loan defaults) were eliminated or substantially reduced. It assumed automatic enrollment and no other behavioral, participation or investment changes by participants or plan sponsors if that access to plan balances were taken away.
The findings: 20 percent of those making the least income otherwise would have enough savings to achieve a “real replacement rate threshold” of 80 percent of working income if denied the chance to cash out retirement savings when changing jobs. And just over 10 percent of the highest-income-quartile participants would have enough money to meet the 80-percent threshold, if they didn’t take their retirement savings proceeds at job change.
To read the complete story on Thompson’s HR Compliance Expert, click here.