The Covid-19 pandemic has caused a lot of destructions. Not only lives were lost, but a lot of businesses were closed. The consequence of that is many people lost their jobs. Ultimately, many people have to dig deep into their savings to have food on the table. The US Government has been trying to help the unfortunate by giving some reliefs through CARE Act and the relief fund. However, it is not enough.
I am one of the luckier population because I am able to work remotely and the company that I work continues to be in business by helping businesses in getting loans. While the bank that I work for is hurting because of the pandemic, it also does not bode well for the employees too. The employees will be seeing less pay increase and maybe no bonus payment at all; we are just grateful that we still have a job.
If you are one of the unlucky ones and lost your jobs, I wish there is something that I could say to make anything easier. Unfortunately, as everyone continues to be impacted by the Covid-19, we just could not see the light at the end of the tunnel. Because of the hardship many are thinking if they can even afford to put food on the table.
I consider our current generation “spend generation”, particularly the millennials. With so many temptations in the world saving for “rainy days” is just not a priority. ABC news ran an article that stats that 40% of Americans don’t have $400 for emergency funds. This was a very similar study undertaken by the Federal Reserves in 2017.
Because of this unprecedented depression, most of the “unfortunates” will try to look for any resources to supplement their lost income. One of the option is borrow from 401(k) plan. And this is a bad idea!
Regardless of what you do, you should never borrow from 401(k) plan. Once you invested in 401(k) plan, you are only allowed to withdraw it when you retire. Withdraw it early comes with severe penalty what I would call “double-whammy”.
If you desperate in need of funds, you have 2 options with the 401(k) plan. You can either do an early withdrawal or you can borrow from it with the option to repay it later. Either way both options are just not ideal.
The CAREs Act changed the rules that allows you to withdraw without paying the 10% early withdraw fee. However, it does not prevent IRS from getting the taxes you owe them. You invest in 401(k) before taxes through the company you work for. If you take the money out, you are liable for paying the taxes. The tax rate may change due to the pandemic but at least 20% is withheld for tax purpose.
Similarly you can borrow from your 401(k) plan. The only difference is you need to pay yourself back within certain period of time. If you don’t have a job and unable to pay it back within the agreed time period, you are liable for the early withdraw penalty and heavy tax bill.
The double-whammy is lost of income. 401(k) is an investment vehicle that will grow over a period. Anytime you remove the funds, you loose the opportunity to grow your investment. Depends on the market, it could be a hefty amount. As an example, I observed my 401(k) balance and I noticed an increase of $20,000 in just less than a month based on a balance of half a million. Granted that this depends how well the market is doing. If the market continue to do well, removing the funds could amount to hundreds of thousands of dollars lost.
Understandably that the pandemic has forced a lot of people off the cliff. If you have an emergency fund or other personal savings to draw upon, you should use this before tapping your 401(k). Withdrawing from 401(k) should be the last straw.