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Coronavirus Distributions Can Undo Years of Retirement Saving

Practice Management

While the percentage of participants taking advantage of CARES Act distributions and expanded loan options is low, doing so may undo years of retirement savings, according to a new study.

Though the coronavirus pandemic has yet to run its full course, there are both encouraging and disconcerting signs, T. Rowe Price reports in "How the Coronavirus Pandemic Is Affecting Retirement Saving." Most participants are largely staying the course in terms of their long-term savings strategies. Since early March through the end of July, the study notes that only 2.5% of participants have suspended salary deferrals and only 5.6% have reduced their savings rate. What’s more, most who stopped or reduced savings did so early in the crisis and subsequent activity has moderated, the study further observes.  

But of those who have taken coronavirus-related distributions (CRDs), 21% have withdrawn the maximum (the lesser of 100% of the vested account balance or $100,000) and the average loan amounts are three times higher for participants taking advantage of the CARES Act higher loan limits, the study notes.

And while the economic impact of this crisis will not be fully understood until the pandemic has run its course, there are “hard lessons” that can be learned from the 2008 global financial crisis (GFC) that can help frame expectations and anticipate what steps may best repair damage done, the study emphasizes.

Looking Back

As an example of the possible long-term effects, a 2018 study by T. Rowe Price found that retirement savers who were saving at an adequate rate prior to the GFC, and who continued to save throughout the crisis, saw the best outcomes. The 67% of retirement savers who practiced this behavior were able to weather the volatility and stay on track with their savings, according to the study.

Meanwhile, 44% of individuals who lacked retirement savings prior to the GFC and increased their savings in response to it, still had to consider delaying their retirement 10 years after the downturn. Both statistics reinforce the importance of developing healthy savings behavior early because making up the lost financial ground can be difficult.

“Looking back, the data suggest that market volatility can induce decisions that are often not in retirement savers’ longer term financial best interest,” says Joshua Dietch, vice president of retirement thought leadership at T. Rowe Price. Dietch notes, for example, that 21% of those surveyed in the 2018 study claimed to have moved money from equity funds to safer investments in their 401(k) plans in 2008 and the primary differences in behavior seem to stem from the size of one’s retirement balance.

Those with the largest accounts were three times more likely to trade from equity funds to safer investment options (35%) than those with the smallest accounts (11%). Additionally, in 2008, nearly one in five workers (19%) recalled taking a loan or hardship withdrawal from their 401(k) plan, Dietch observes.

What’s more, the 2018 study found that those who were closest to retirement (within five years) were least likely (11%) to take a loan or hardship withdrawal and those who were at least 15 years from retirement were most likely (21%). More concerning, however, was that the behavior of those between six and 10 years from retirement was more like those furthest away from retirement than those closest to it.

Additionally, the study notes that those who took that action did so knowing that they would pay an excise tax penalty on hardship withdrawals and incur an immediate tax liability, in contrast to today’s retirement savers who may be eligible to benefit from the CARES Act provisions.

On a positive note, T. Rowe Price’s 2020 401(k) recordkeeping data shows that investor behavior during the current financial crisis is muted compared to the 2008 behavior featured in the survey. Less than 2% of investors who solely invest in target date funds had changed their investment allocations compared to 19% of all other investors.

“Looking back, the data suggest that market volatility can induce decisions that often will not benefit retirement savers’ over the long term,” adds Dietch. “However, today’s savers have benefited from the automation of retirement savings brought on by the Pension Protection Act in ways that savers could not in 2008. If there is a silver lining to this crisis, this may be it: that automated contributions can help people save for retirement, regardless of market conditions.”

The survey findings are based on a national study of 3,016 retirement plan participants, 250 eligible non-plan participants, and 603 individuals without access to workplace savings plans. T. Rowe Price record keeping data is based on internal plan sponsor and participant data through July 31, 2020.