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According to a recent study from Bank of America, which monitors employee benefit programs of nearly 4 million clients, the number of participants engaging in tough withdrawals from their 401(k) increased by 13% in the second quarter compared to the third quarter.
This has affected over 18,000 plan participants, the highest level in the last five quarters since Bank of America commenced tracking this data, representing a 27% surge from the number of withdrawals in the first three months of the year.
During uncertain times, borrowing from retirement savings is undeniably a swift financial move, but it comes with consequences.
“Our data across 401(k) plans shows that economic hardships continue to be a factor,” expressed Lisa Margesan, managing director of the Retirement Research and Insights Group at Bank of America, to Yahoo Finance.
“While several factors may be at play, the economic climate following a year of high inflation and escalating living costs may be influencing this trend.”
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The survey reveals that a significant number of individuals are obtaining hardship distributions from their 401(k) plans. (Getty Creative) (SB Arts Media via Getty Images)
The average employee hardship withdrawal from a 401(k) plan in the third quarter of the year was $5,070, similar to the average withdrawal in preceding quarters, according to a Bank of America survey.
However, loans from IRAs or IRA-based plans such as SEPs, SARSEPs, and SIMPLE IRA plans are not permitted.
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“Things are starting to go haywire,” certified financial planner Cary Carbonaro conveyed to Yahoo Finance. “This is a direct result of the Fed raising rates. We’re just starting to see the effects of these increases – whether it’s auto loans at around 10%, mortgages at 8% or credit cards at over 20%. Inflation Add that and resuming student loan payments, the budget is maxed out for almost everyone except the very wealthy.”
consequences of a retirement raid
Without a doubt, premature withdrawals have the most adverse impact on savers as they incur substantial taxes and penalties.
Withdrawals from your 401(k) account are generally taxed as ordinary income. Moreover, unless you meet one of the IRS exceptions, you’ll face a 10% early withdrawal penalty before age 59½. These exceptions include certain medical expenses, qualified tuition payments, and up to $10,000 for first-time home buyers. Some employer plans may also permit hassle-free withdrawals.
With loans, it’s not an absolute loss. You take money from your retirement savings and then reimburse yourself, usually within five years, with interest – the loan repayments and interest are restored to your account. Depending on your employer’s plan rules, within a 12-month period, you can withdraw 50% of your savings, up to a maximum of $50,000.
One warning: If you leave your current employer, you may be obligated to immediately repay your loan. Failing to repay the loan will lead to it being deemed in default, and if you are under age 59½, you will owe both taxes and a 10% penalty.
As per the survey, the average employee hardship withdrawal from a 401(k) plan in the third quarter of the year was $5,070. (Getty Creative) (Simonkr via Getty Images)
Financial experts seldom advocate for clients to access their 401(k) plans unless they are over age 59½.
“Usually, obtaining a loan from your 401(k) should be a last resort because you will miss out on potential market appreciation as the borrowed funds are not invested,” contended certified financial planner Ryan Flynn of Zito Capital Management. Hayes pointed out. Garden City, NY disclosed to Yahoo Finance.
Another consequence of using your retirement funds for short-term expenses is that by withdrawing cash, even for short terms, your retirement fund misses out on the compound growth on the amount borrowed.
“Many clients have inquired about tapping into their 401(k),” Hayes remarked. “Before investing, we strongly advise our clients to establish an emergency fund, capable of covering 3 to 6 months of expenses. This would undoubtedly be the most suitable place to save money for emergencies.”
If a loan or withdrawal from your 401(k) is inevitable, “you should endeavor to continue contributing while repaying the loan, particularly up to the employer match, if available,” Hayes suggested. “Otherwise, you’ll be passing up on the ‘free money’ from your employer.”
Kerry Hannon is a senior reporter and columnist at Yahoo Finance. She is a workplace futurist, a career and retirement strategist, and the author of 14 books, including “In Control at 50+: How to Succeed in the New World of Work” and “Never be too old to be rich.” Follow her on Twitter @kerryhannon,
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