Financial Shocks Throw a Wrench Into Americans’ Retirement Savings

Many borrow from their 401(k) plan to cover a sudden financial emergency, Pew found in a survey.

In a new report, “Financial Shocks Put Retirement Security at Risk,” The Pew Charitable Trusts examined whether financial setbacks cause people to tap into their retirement savings. Based on a survey of 5,661 households, Pew found that, in the past year, 13% of people who had experienced a financial shock drew from their retirement savings.

When all survey respondents were asked how they would handle an unexpected financial burden, 78% said they would turn to their savings accounts, 49% said they would use their credit cards, and 25% said they would draw down money from their retirement account. Over the span of their lifetime, more than half of households in the nation will experience some type of financial shock, Pew  found.

The organization notes that people who take money out of their retirement account before age 59 1/2 not only have to pay taxes on the withdrawals but a 10% early withdrawal penalty. In addition, those who take out loans are typically banned from contributing to their retirement account over the life of the loan, and sometimes for an additional six months after it is paid off.

The median cost of financial shocks was $2,000. In years when someone in the household was unemployed, got a pay cut or experienced a marital change such as divorce, separation or a spouse’s death, the household was more likely to experience someone drawing from his retirement account.

People with a college education or higher were less likely to borrow against their retirement account than those with only a high school degree.

“This research underscores earlier Pew studies that found many American families are under financial stress—experiencing medical, employment or other shocks, and having insufficient liquid resources to deal with them,” says Alison Shelton, senior officer of The Pew Charitable Trusts’ retirement savings project. “When families turn to their retirement accounts to deal with financial shocks, they can permanently lower their retirement savings.”

Pew recommends that policymakers create a way that employers can automatically deduct small amounts from Americans’ paychecks to create rainy day funds. This, the organization says, could prevent many people from raiding their retirement fund