Cash-strapped employees are turning to their retirement plans as the credit crunch drags on and costs for everyday necessities continue their upward spiral. While hardship withdrawals from
“We would say from our data that the big uptick began earlier than the subprime crisis, which indicates to us that it wasn’t a lagging indicator, it was a leading indicator,” says Stephen Utkus, director of Vanguard’s Center for Retirement Research. “When people started to have difficult times, they started tapping their
It’s not hard to imagine that people who took on more mortgage debt than they could handle began looking to their retirement accounts to keep their heads above water.
Hewitt Associates tracks 1.5 million
The number of loans from
“We did find that in 2007 and so far in 2008 the number of people initiating new loans is marginally higher, but they’re shorter-term so they’re paying them off quicker. But 22 percent of people with loans is a lot. That’s always been one of our concerns. If it’s a one-time thing and they really need the money and they’re going to repay it in a couple years and they keep contributing to the plan so they get the company match, then some loans might be OK for a short-term solution.”
IRS rules for withdrawals
Hardship withdrawals are allowed under IRS rules for “immediate and heavy financial need” that meets certain criteria.
- Expenses for medical care previously incurred by the employee, the employee’s spouse, or any dependents of the employee or necessary for these persons to obtain medical care.
- Costs directly related to the purchase of a principal residence for the employee (excluding mortgage payments).
- Payment of tuition, related educational fees, and room and board expenses, for the next 12 months of post-secondary education for the employee, or the employee’s spouse, children or dependents.
- Payment necessary to prevent the eviction of the employee from the employee’s principal residence or foreclosure on the mortgage on that residence.
- Funeral expenses.
- Certain expenses relating to the repair of damage to the employee’s principal residence.
If the criteria are met, a hardship withdrawal can include the amount of the employee’s elective deferrals. Employer contributions may be included depending on the company plan. Keep in mind that withdrawals are taxed as ordinary income; plus a 10 percent penalty.
You can’t put the money back into your
Loans depend on company
“Congress did not prohibit hardship withdrawals, did not prohibit loans and did not prohibit you touching your money when you change jobs,” notes Vanguard’s Utkus. “The tax policy in the U.S. is designed to create disincentives but never prohibitions.
“There’s a good argument to be made for absolute prohibitions because you want to protect retirement savings, but I think economists persuaded Congress that sometimes there are worse things than not saving for retirement and those include losing your house, unemployment, huge medical expenses and financial catastrophe. Sometimes if the only asset you have is your
Think before you tap
Before you tap your
Steve Juetten, Certified Financial Planner and principal at Juetten Personal Financial Planning in Bellevue, Wash., has several steps that he advises people to take before tapping a retirement plan during a financial crisis:
Review the last 6 months of expenses and classify them into needs and wants. “Most people spend about 80 percent of their income on seven or eight main categories, such as food, clothing, shelter, gas, insurance and the like. There isn’t a lot of variability in that. It’s the other 20 percent we’re going after. After you’ve separated the needs from the wants, stick to a plan that spends only on the things you need, not the things you want.”
Involve the family. “The kids need to be involved, both parents need to be involved, whoever your family is — let them know what’s going on, what you’re doing and how everyone can contribute. Pennies add up to dollars and dollars add up to many dollars. Everybody can help.”
Make minimum payments on credit cards. “If you have credit card debt and you stop paying, it will affect your credit rating. Make the minimum payments and make them on time.”
Take a loan rather than a hardship withdrawal if you can. “Everybody’s situation is different, and if you’re really strapped, you may need to take the hardship withdrawal because you start repaying a
Even people who are getting through the current crisis relatively unscathed should make sure their emergency funds are adequate. Employees may not be fully aware of how much cost increases are impacting their companies, and a job loss can happen whether or not you expect it.