Recent studies and reports highlight a growing trend of withdrawals and loans from retirement accounts such as 401(k)s and Thrift Savings Plans (TSP). This rise raises concerns about the long-term financial security of savers.
Concerning Trends
Approximately one-third of account holders have either borrowed from or withdrawn early from their 401(k) or IRA accounts. Of these, 26% have taken loans, and 18% have withdrawn funds due to financial hardships. However, only 17% of borrowers fully repaid their loans, while 6% defaulted. TSP participants reflect a similar pattern, with general-purpose loans rising by 40% in 2023. By the end of the year, nearly 480,000 loans were active, amounting to roughly $5 billion. Policy changes permitting two general-purpose loans per participant may have influenced this uptick.
Leading Factors
Several factors are driving the increase in loans and withdrawals, including financial emergencies, debt repayment, medical expenses, and daily living costs. The TSP projects that in 2024, approximately 500,000 participants will take loans exceeding $7 billion, more than double the amounts from 2019 to 2021. Likewise, hardship and age-based in-service withdrawals could reach $12 billion across half a million cases.
Far-reaching Effects
For TSP participants, borrowing from these accounts carries significant long-term consequences. Loans reduce the principal available for compound growth, potentially hindering the account’s ability to grow over time. Furthermore, if a loan remains unpaid within 90 days of retirement, it is classified as a taxable distribution, potentially increasing the borrower’s tax liability.
The interest rate for TSP loans is determined by the prior month’s G Fund rate. For December 2024, this rate is approximately 4.375%. Before borrowing, participants should consider the cost of this interest compared to their account’s potential returns.
As withdrawals and loans become more prevalent, it is crucial for individuals to balance immediate financial needs with protecting their retirement future. Speaking with a Federal Retirement Consultant® (FRC) can provide valuable guidance on exploring alternatives and crafting a plan that aligns with both short-term goals and long-term security.
