401k Participant Loans Send Inconsistent Message
401k participant loans are a topic which continues to be surrounded by industry debate. Offering 401k participant loans is likely to stimulate employee participation rates; however, the practice of permitting participants to borrow from their retirement account tends to send the wrong message to plan participants. 401k plan deferrals should be considered retirement dollars the day they are deposited into each participant’s account. There is no easy solution with the debate. Mike Bourne, Managing Partner of Atessa Benefits in San Diego, CA and Board Member of the National Institute of Pension Administrators (NIPA) discussed with Fred Barstein, Founder and CEO of 401kTV the benefits and drawbacks of offering 401k plan loans. Important topics and concepts are addressed in this informative exchange about 401k participant loans.
Full Transcript here
Fred Barstein with 401k TV for the monthly NIPA video. I am here with Mike Bourne, welcome, Mike.
Okay if we ask you a few questions?
Along with being a board member for NIPA, which is a sponsor of this video, he is a managing partner for Atessa Benefits in the San Diego area. They have almost 400 clients, 403b, 401k, as well as defined benefit. And in his prior life was a plan sponsor. So he understands all the trials and tribulations that you go through.
So today, let’s talk about the raging debate of whether a company or an organization should allow their employees in their defined contribution plan to take out loans. And where do you stand on that?
I actually stand on the don’t, don’t do it.
The reason you establish a retirement plan is so that the employees can set up funds for retirement.
And defer for retirement, and if you allow them to take loans, you’re actually harming that process.
Right. But the argument on the other side is that employees might not want to participate if they don’t have some ability in an emergency, good reasons, medical emergency, housing, that kind of thing, so how do you answer that?
Well, it is true, you probably could get higher participation rates by reassuring the employee that they could get access to those funds whenever they really need them. The thing I would say is if you’re going to allow loans, then make sure that you only allow one loan at a time.
That you only allow it from their own wage deferrals, in other words, they don’t get any access to the employer’s contributions-
Or the investment returns. And then, have them sit down with either the plan administrator or the financial advisor-
Of the plan or someone who will explain to them the ramifications of what’s going on here with this loan, especially if they don’t pay it off. So many employees, they end up leaving the company, and now they either have to accelerate the timeframe that they were paying off the loan-
Or it becomes a deemed distribution.
And there’s a 10% penalty-
Plus taxes. So can a company do hardship loans, and have qualifications?
Yes. And if you were going to do loans, those are the ones I’d recommend. And then on the hardship loan, you would say, okay, it’s going to be for the purchase … down payment on a purchase of a new home. It’s going to be for extreme medical expenses, or educational costs, or things along that line. But again, it’s still contrary to the whole reason you set up this retirement plan.
Right. But if you do that hardship there, the plan sponsor or the provider has to have the documentation?
Yes, they have to go through the documentation, and normally that’s going to be some sort of receipt or some sort of escrow statement-
That says there’s a down payment necessary for the loan, and things like that.
But yes, you have to go through it.
And I would add one more thing, with the best is six month waiting period in between loans.
Yes. And definitely one loan outstanding at a time.
One at a time, great. Well that’s great advice, although I disagree with you. But that’s okay. And it’s really up to you and your population, whether you think there’s a trade off. The loans are not good, but does it inhibit participation? So that’s for your time today, Mike. Thanks for the support of NIPA to bring you this valuable information, and thanks for watching 401k TV.