About 45 percent of all workers who left their employers last year opted to cash out their 401(k) savings, a new study shows. Cash-outs are most acute...
NEW YORK — About 45 percent of all workers who left their employers last year opted to cash out their 401(k) savings, a new study shows.
Cash-outs are most acute among the young and those with small balances, according to the study published by consulting firm Hewitt Associates.
And while new rules this year to limit cash distributions among people with small balances should help lessen cash-outs, they will do little to stop the problem, said Lori Lucas, a defined-contribution consultant with Hewitt.
Hewitt looked at the distribution patterns of 195,500 terminated employees across 81 companies.
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When workers leave a job, they generally have four options for their employer-provided 401(k) plan. They can leave the money in the plan, roll the money over to an individual retirement account, roll the money over to another 401(k) plan or take the money in a cash distribution.
Taking a cash distribution eliminates the benefits of tax-sheltered savings and should be a last resort reserved for those who desperately need the money. Those who cash out are taxed on the withdrawal. A 10 percent penalty tax also is imposed on withdrawals made by people under age 59 ½.
Yet the disadvantages associated with cash-outs don’t seem to deter young workers and those with small balances. Two-thirds of departing workers ages 20 to 29 years old took their 401(k) money in cash in 2004, compared with 49 percent of workers ages 30 to 39 and 42 percent of workers ages 40 to 49.
Meanwhile, 73 percent of workers with 401(k) balances of less than $10,000 took a cash distribution upon leaving their employers last year, compared with 31 percent with balances between $10,000 and $20,000.
New rules this year are designed to stop employers from forcing people with small balances to take a distribution when leaving a job.
Employers would often force distributions for accounts worth less than $5,000 because they found them too costly to maintain
Under the new rules, employers are required to either maintain small balances — defined as anything between $1,000 and $5,000 — or automatically roll the money into an IRA when workers depart. Workers with small balances will only take their money in cash if they take the initiative to do so.
The new rules will help but not solve the problem, said Lucas. Employers need to do more education about distributions if they want employees to make wise decisions, she said.
This means telling workers their various distribution options and illustrating the benefits of tax-sheltered savings, Lucas added