Financial sins abound, including not saving enough, not taking advantage of available tax credits, and spending extravagantly on cars, clothes, vacations, and more that you can’t afford.
But when it comes to financial misconduct, it’s hard to beat cashing out of a workplace retirement plan and not being able to find another job.
This is more common than you might think, and employers can also unintentionally share some of the responsibility.
Withdrawing money from a 401(k) program before retirement age can result in significant tax and other costs. But researchers Yanwen Wang of the University of British Columbia, Muxing Zai of Texas State University, and John Lynch Jr. of the University of Colorado.
In preparing the study, called “Cash Retirement Savings at Turnover,” the researchers looked at the retirement patterns of more than 162,000 employees covered by 28 retirement plans from 2014 to 2016. evaluated.
“When people cash out, they go back to square one with no more savings than they started with,” the researchers wrote in a prepared statement. Stated. For comfortable old age. “
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85% of workers who use retirement accounts when they leave work have withdrawn everything. Cash opportunities are plentiful, according to Zippia, an online job search firm, as American workers hold about a dozen jobs in their lifetime and stay with each employer for about four years on average.
This helps explain why the median or midpoint of 401(k) balances in 2022 will be just $27,376, matching the price of a used car for a new car, according to Vanguard. 2023 ‘How America Saves’ Report. His average balance was a respectable $112,572, partly due to the relatively small number of employees with large accounts. One in three workers has less than $10,000 in 401(k), according to Vanguard.
Working with withdrawal options
When leaving a job, workers typically have four options for how to handle the 401(k). Some employer plans allow departing workers to leave money in the plan. Other options are to transfer the balance into a plan offered by your new employer (if allowed), transfer funds to a personal retirement account, or cash out.
Workers who cash in a traditional 401(k) plan may be subject to a 10% early withdrawal penalty (if enrolled before age 59 1/2), plus must pay income tax on “This means that people are losing extra money on the way out by accepting a 10% penalty along the way,” the researchers wrote.
Perpetual withdrawals from regular 401(k) plans are subject to regular federal and possibly state taxes. Worse, even moderate withdrawals can be subject to higher taxes depending on your other income. And there is a 10% penalty for withdrawing before age 59 1/2.
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Taxes and penalties do not apply if you roll over or transfer money to another tax-protected account, including an IRA, within 60 days.
Withdrawals of Roth 401(k) contributions (contributions that were not tax deferred at the time of contribution) are generally tax-free, although a 10% penalty may apply. Tax rules can get complicated quickly and there are various exceptions. But young workers who cash out their 401(k)s should be careful about taxes when they retire.
Are employers doing enough?
Studies show that workers are more likely to withdraw cash when they receive larger employer contributions or matching funds. The greater the share of account balances contributed by employers, the more likely workers are to treat it like a windfall they feel they justify spending, overlooking or ignoring the tax implications.
This has implications for employers who open retirement accounts and offer tips in hopes of helping their employees improve their long-term financial well-being. But employers generally don’t see cashing out as a pressing issue, the researchers said.
“Most companies have a blind spot about what will happen when they retire and do not offer financial advice to their departing employees,” they write. Instead, employers typically delegate responsibility to the financial services firm that administers the 401(k) plan. Researchers say these companies send standardized letters to departing employees to inform them of their options without providing any actual guidance.
Many leaving employees seem to think cash is the easiest option. Easier than rolling over your balance to another employer plan or IRA and deciding on a new investment lineup.
When a leaving employee receives their cashed check as windfall instead of their hard-earned money, they are less likely to expend the additional effort of opening a new account and choosing to invest there. Become. It’s hard not to see similarities in behavior with people who gamble more aggressively when playing with house money.
“If companies can stop retiring employees from suddenly targeting their hard-earned savings as free money, they will be more likely to be matched with employers and generate maximum profits for their comfortable retirement.” will be,” the researchers wrote. “Although the employer has good intentions…in fact, they may be unintentionally encouraging employees to withdraw cash.”
Please contact the author at russ.wiles@arizonarepublic.com.