(Not) Growing Pains
The costs of cashing out too soon
An updated report issued by the Congressional Research Service (CRS) reported that nearly half (44%) of participants who had received lump-sum distributions from their retirement plans had rolled over the entire amount of their most recent distribution into an IRA or other retirement plan, and another 40% said that they had saved at least part of the distribution in some other way, though that included paying off debts or making home improvements. Said another way, more than half spent at least some, and roughly one in five spent it all.
A recent Hewitt Associates survey of nearly 200,000 plan participants found that 45% took a cash distribution upon their departure, while 32% stayed in the plan, and 23% rolled over into another qualified plan or an IRA.
The Hewitt data found a direct correlation between age and tenure, and employees' decisions to cash out of their 401(k) plans. The highest incidence of cash distributions was among young employees (66%) age 20 to 29 but, even among those age 40 to 49, 42% elected to cash out of their 401(k) plans upon leaving their jobs.
Those early cashouts can be costly. The CRS report notes that, if the median lump-sum distribution ($6,000) received through 2002 had instead been rolled over into an account that grew at the same historical rate as the Standard & Poor's 500 Index, it would have had a median value of $7,214 by 2003. According to the report, if this amount were to remain invested, it would grow to an estimated value of $31,100 by age 65.
For plan sponsors, the message is both optimistic and ominous. Retirement savings efforts are paying off—but, in too many cases, that "payoff" is coming years before the participant's actual retirement. Moreover, good intentions and prior behaviors notwithstanding, once that money is "in hand," it all too frequently becomes a tempting target for some "here and now" consumption.
This month's Know How outlines the options most participants have for those distributions, with the hope that it will encourage more to leave those savings invested, rather than spend them too soon. As always, we look forward to your reactions and comments.