The CARES Act: Retirement Funds and Emergency Savings

The CARES Act: Retirement Funds and Emergency Savings

Friday, April 24, 2020

The CARES Act facilitates immediate access to retirement funds. While necessary during these unprecedented times, it also highlights the fact that millions of Americans depend on their retirement savings for emergency expenses. The decision to tap into retirement savings–at any time, but particularly in a market downturn–carries significant financial costs for Americans who are already ill-prepared for retirement. Retirement plan record keepers can help address these challenges by playing a pivotal role in enabling Americans to build emergency savings, avoiding early withdrawals from retirement plans and ultimately achieving financial opportunity.

As of this writing, the COVID-19 pandemic has caused more than 22 million unemployment claims as businesses of all sizes shutter and the economy largely grinds to a halt. Congress passed the CARES Act to help Americans facing financial hardship during the pandemic through tools like $1,200 in cash assistance and the expansion of unemployment benefits, as well as a provision that allows people to tap into retirement savings to cover the financial impact they’re sustaining as a result of COVID-19.

The CARES Act Provisions Expands Retirement Savings Loans

The legislation provides an option for record keepers to increase the amount people who are impacted by COVID-19 can borrow from their 401(k) accounts from $50,000 to $100,000 or their fully vested amount (whichever is less) and gives them an extra year to pay it back via paycheck reduction without tax penalty. And, it eliminates the penalty for a hardship withdrawal–typically 10% if the person is under 59 ½, as long as the withdrawal is paid back within three years.

401(k)s as De facto Emergency Savings

These CARES Act provisions allow people to dig even more deeply into their retirement accounts, revealing an underlying systemic issue: retirement plans, designed purely for long-term savings, have come to serve as de facto emergency savings products. In part because of a dearth of high-quality short-term savings solutions, Americans sorely lack liquid savings. About 40% of people do not have enough cash on hand to cover a $400 emergency, and up to 78% of people live paycheck to paycheck.

But encouraging people to tap into their 401(k) early is a short-term salve that may create longer-term negative financial effects down the road. While unfortunately necessary for some in these dire times, it should be an option of last resort.

Americans are already ill-prepared for retirement, and their retirement accounts are a necessary asset to be preserved for later in life. Employee Benefit Research Institute found that in 2019, 41% of households headed by a person aged 35 to 64 are projected to run out of money during retirement. Compounding the lack of retirement savings is the current stock market volatility due to COVID-19, which means tapping into retirement investments at the worst possible time. On top of this opportunity cost, penalty fees for early 401(k) and IRA withdrawals cost Americans $5.7 billion in 2017 (though penalties are temporarily waived now).

Reducing the Need for 401(k) Hardship Withdrawals and Loans

In our research, Commonwealth has found that actors outside traditional financial institutions — including employers — can encourage people to create liquid emergency savings. With their current infrastructure and position with employers, record keepers are plugged into an important opportunity to enable short-term savings and reduce the need for hardship withdrawals or loans from retirement accounts with well-designed savings solutions.

Offering a liquid, short-term account for savings, either as a sidecar within the 401(k) plan or a separate offering on an associated financial wellness platform, aligns with retirement plan record keepers’ current objective to better prepare plan participants for retirement and to provide more holistic financial wellness solutions to employers.

Emergency savings solutions also enable record keepers to improve participant engagement. The more interaction employees have with their platform, the more likely they are to open new accounts and invest in proprietary ETFs, and the less likely they are to move funds out of the account upon switching employers.

Record keepers are already tapping into new areas of employee benefits, like student debt payments, and can leverage this framework as a pathway towards launching emergency savings. Employers are seeking emergency savings benefits for their employees, and if record keepers do not provide it, they may seek it out from other sources.

COVID-19 has demonstrated the large-scale impact of a lack of emergency savings. Americans will do better if everyone has access to solid short-term and long-term emergency savings options. Easing withdrawal restrictions through the CARES Act may meet the short-term financial needs of Americans–and are a necessary last resort during this unprecedented pandemic–but tapping retirement funds erodes long-term financial security. Record keepers have a key role to play in helping people prepare for emergencies while keeping their retirement savings intact–an opportunity that will establish a competitive advantage while also having a positive financial impact on their customers.

BlackRock’s Emergency Savings Initiative

BlackRock announced a $50 million commitment to help millions of people living on low- to moderate-incomes gain access to and increase usage of proven savings strategies and tools—ultimately helping them establish an important safety net. The size and scale of the savings problem requires the knowledge and expertise of established industry experts that are recognized leaders in savings research and interventions on an individual and corporate level. Led by their Social Impact team, BlackRock is partnering with innovative industry experts Common Cents LabCommonwealth, and the Financial Health Network to give the initiative a comprehensive and multi-layered approach to address the savings crisis. UPS, Uber, Mastercard, Etsy, Brightside, Arizona State University, and Acorns have joined BlackRock’s Emergency Savings Initiative to help their employees, customers, gig workers, and college students take the essential first step towards long-term financial well-being.