By Paul Swanson, CFA
When it comes to emergency funding, retirement savings accounts should be the piggy bank with no hammer attached. However, because of the COVID-19 pandemic recession, the 2020 CARES Act allowed consumers greater access to borrow or withdraw from their retirement savings accounts – and many did to help make ends meet. Still, it’s vital that these consumers start re-assembling their retirement savings pools – and when equipped with the ins and outs of these provisions and a long-term plan for how to make it work in your financial routine, the necessary repairs can be made.
CARES Act loans must be paid back in six years – so it’s important that you start repaying as soon as possible. Setting up deductions from your paycheck is a great way to begin. It essentially puts the repayment plan on autopilot, which can help you chip away at the loan on-schedule – and cross it off your financial ‘to-do’ list in one step. 401(k) borrowers should also note that if you leave your current employer, the loan must be paid back in full upon your departure. If you can’t, it’s considered to be in default, meaning you’ll face ordinary income taxes plus a 10% penalty on the outstanding balance for early withdrawal. That can be a lot of money to take on at once, especially after a time of financial difficulty – so navigate your near-term career choices with care.
The CARES Act also allowed consumers affected by pandemic-related job loss, reduced wages, or sickness to withdraw up to $100,000 from their 401(k), 403(b) or IRA. While the 10% early withdrawal penalty does not apply, ordinary income taxes are still owed within three years. The withdrawal itself can also be paid back in by 2022 to avoid paying taxes on the distribution, and these distributions become interest free loans if paid back within three years as well. With this in mind, it’s vital to consider paying these withdrawals in full or in a significant part as soon as possible to reduce a hit to your tax bill and, by extension, avoid another potential setback in rebuilding lost retirement savings.
At the end of the day, reaching into your retirement savings account before retirement age is far from ideal – but if you used the CARES Act provisions to tap in, you can still tape that piggy bank back together sturdier the sooner you start. Because when it comes to retirement security, every dollar counts.
About the author: Paul Swanson
Paul Swanson CFA and CIMA® is vice president, Retirement, Cuna Mutual Group, a leading insurance, financial services and technology company focused on helping people achieve financial security through all life stages.
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