How to Keep Savers From Cashing Out of 401(k)s
Nearly 45 percent of workers extract the money when changing jobs
I did it. Maybe you did, too. I was 29, leaving my employer for a new one, and cashed out my 401(k) plan’s balance, roughly $5,000, to pay off some credit card bills. Foolish me. If I hadn’t touched the money, that tiny mound might have pumped up to $50,000 by the time I retire.
Extracting retirement money before retirement is a weighty problem. Nearly 45 percent of workers cash out their retirement accounts when changing jobs, according to the Women’s Institute for Secure Retirement (WISER). That’s why WISER yesterday held a Washington, D.C. Forum I attended: The Leading Edge — Auto Portability: A Solution to Prevent Cash Outs & Preserve 401(k) Assets.
And, as Dan Kadlec noted in a recent Time.com article, one in eight Americans tapped their retirement savings over the past 12 months to pay for a household emergency, according to a survey from Bankrate.com.
Lower-income employees are especially prone to cash out of their employer-sponsored retirement plans when they leave. At the WISER Forum, the Employee Benefit Research Institute’s Sudipto Banerjee presented findings from his 2014 paper about workers 50 and older noting that a decision to take cash out of accumulated savings declined with higher incomes, higher financial wealth, higher debt loads and higher account balances.
401(k) cashouts were also slightly higher among women than men — 18 percent of women cashed out vs. 15 percent of men.
The 401(k) Rules When You Leave a Job
In general, when you leave an employer and have a defined contribution plan such as a 401(k), you can either: roll it over to an IRA, keep the money in your former employer’s plan or cash it out. Under government regulations, if you have less than $5,000 in your retirement account when you leave a job and do nothing with it, the money gets moved into a so-called Safe Harbor IRA, invested in money market accounts paying little interest and washed-out by account maintenance fees.
At the WISER Forum, Spencer Williams, President and CEO of Retirement Clearinghouse, based in Charlotte, N.C., discussed his firm’s new approach to stop that kind of “leakage.”
He’s working on getting permission from the government and large financial firms to offer what’s known as “auto-portability” for such small 401(k) accounts — automatically routing the old balances into the employees’ next 401(k)s if they don’t cash them out. “So instead of starting a zero in a new plan, you start with a balance,” said Williams.
The firm anticipates charging a small custodial fee of $3.50 a month for the holding period between jobs and a $59 fee for the electronic transfer to a new plan.
“We often talk about how much you need to retire. These are good goals and attainable if you participate in a plan for a lifetime. But let’s go to the real world,” said Williams. “Sometimes that 5 or 10 or 15,000 dollars for an elderly person — very often a woman, alone — is the nest egg, the rainy day fund, the thing that is able to keep her going along with Social Security. Even a very small savings account matters.”
What Employers and Advisers Could Do
Here’s what else I heard at the WISER Forum:
Employers need to do a better job increasing employees’ financial literacy about their retirement plans. Said Judy Mares, Deputy Assistant Secretary for Employee Benefits Security Administration at the U.S. Department of Labor: “I’m not sure everyone appreciates that the funds on the menus came from a vetting process, where somebody with sophistication went through the analysis of alternatives to come up with what they believe is an appropriate menu of funds. Nor do they value institutional pricing... and the lower fees. To keep assets in plans, first people need to understand how to value what they have first and foremost.”
Financial advisers and employers need to help savers understand how best to manage their retirement-plan money after they leave their employers and in retirement. Said Mares: “We haven't worked as hard on decumulation phases as we did on accumulation phases... We have nudged people to take their money out of the plan.”
I agree with her. Whenever I’ve left a job, I’ve been told by Human Resources how I can roll money out of the plan, but not why I might want to stay in it.
Shaun O’Brien, Assistant Director for Health and Retirement in the AFL-CIO’s Policy Department concurred. “The workplace retirement plans we have today are geared toward taking your money when you leave,” O’Brien said.
Dagmar Nikles, Managing Director and head of investment strategy for BlackRock’s U.S. and Canada Defined Contribution Group jumped in: “We’ve made great strides in automating contribution escalations to plans and enrollment (translation: the percentage of pay employees put into the plans rises automatically annually and new employees are enrolled automatically) and added target funds. But it is largely accumulation. We need to automate the decumulation phase.”
What the Government Might Do
The U.S. government may help retirement savers in a few ways, from what I heard at the WISER Forum.
The Obama Administration hopes to spruce up its myRA retirement plans. The government created MyRAs, you may recall, to let people without employer-sponsored retirement plans automatically deposit money from their paychecks into myRA retirement accounts. The money ($15,000 max) grows risk-free, earning interest.
Mark Iwry, senior advisor to the Secretary of the Treasury said: “Look for ways to add MyIRA to earmark tax refunds on your 1040.” He also said the administration hopes to expand MyRAs, so even if you don't have an employer to set one up for you, you can automatically transfer money from your bank account to a MyRA.
As the session wrapped, Kendra Isaacson, a staffer for the Senate Health Education Labor and Pensions Committee, said Senator Patty Murray and nine co-sponsors just introduced the Women’s Pension Protection Act of 2015. It would enhance women’s ability to save for retirement in a number of ways:
- It would strengthen spousal rights over 401(k) account balances by requiring a spouse to provide consent to the funds being distributed at retirement or when the employee spouse changes jobs.
- It would protect spousal rights to 401(k)-type assets rolled into IRAs.
- More part-time workers would get the ability to save for retirement at work because employers would be required to make long-term, part-time employees eligible to participate in plans like 401(k)s.
Whether that bill will pass is anyone’s guess. But here’s hoping Washington comes up with something to help more people save for retirement wisely.