In the event of a financial emergency, or even just a looming necessity such as a child’s college tuition bill, you might feel tempted to take an early distribution from your retirement plan.
And now, withdrawing money from your retirement account is even easier than ever. The CARES Act passed by Congress in March of this year has made it possible for many people to take a withdrawal without paying the usual hefty 10 percent penalty. But just because you can do it, doesn’t mean that you should!
Taking an early withdrawal can have some pretty serious consequences down the road, with your account balance reduced by about a quarter (according to a 2015 report by Boston College).
Consider this fictional (but realistic) example from the report: Assume a saver is 60 years old, earns $60,000 per year, and has contributed 9 percent of his paycheck to a 401(k) since age 30. Assuming an average rate of return of 6.5 percent, this individual would have saved $675,000 by retirement.
That sounds pretty great, so you might think a one-time withdrawal won’t make that big of a difference. Think again: If this fictional person took a one-time withdrawal of $40,000 dollars from their account at age 40, their final accumulation at retirement would amount to $480,000 (assuming all other factors remain equal).
Ouch! Why the big difference? The answer lies in compounding growth over time. While our fictional saver could possibly replace the $40,000 dollars to his account later, making up for lost time would be quite a challenge.
In most cases, withdrawing money from your retirement account should be considered your last option in an emergency. And it should be completely off the table for expenses that can be covered any other way. If you ever face a financial emergency, remember that we’re here to consult. Together we can review options and identify alternate paths to protect your retirement savings.