The issue of leakage in defined contribution plans, (premature cashout of tax-deferred retirement savings) is one of the major deficiencies causing participants to fall short of their retirement finance needs. The Defined Contribution Institutional Investment Association (DCIIA) has recently conducted research on the issue of leakage in the defined contribution (DC) retirement community.
The finding of the study are summarized by the DCIIA as follows:
The results from this survey confirm that plan leakage remains an issue that ultimately is undermining the critical public policy goal of preserving assets for retirement savings. In investigating the phenomenon by generational groups, participants’ perceptions of the rollover process, and the reasons for the resulting decision-making, Millennials are reported to be at higher risk for leakage than the older generations. In addition, the majority of Millennials do not regret their decision to cash out. Lastly, according to the survey responses, obstacles such as the length and complexity of the roll-over process are barriers to the rollover decision. Further, responses suggest that eliminating the barriers present in the roll-over process would be a viable solution to plugging the leak from retirement plans.
DATA POINTS ON LEAKAGE
- A noticeable percentage of survey respondents cashed out savings at least once, with younger generations more likely to do so.
- Specifically, almost one fourth of Baby Boomers “cashed out” retirement savings at least once when changing jobs,
- one third of Millennials and GenXers did so.
- About 75% of the cash outs involved accounts with assets of less than $20,000, suggesting that small amounts of savings might be considered not worth the effort required to roll over these assets to the new employer’s DC plan.
- A worrisome trend is that Millennials are increasingly using cash outs for non-emergency spending.
- Forty-two percent of Millennials reported spending retirement plan cash outs on non-emergency items such as weddings and cars, while less than 25% of GenXer respondents used the cash out for such non-emergency purposes.
In a Plan Sponsor University program at Manhattanville College in Purchase, N.Y. on October 25, 2016, a group of approximately 20 plan sponsors,representing 20,000 employees discussed the issue of leakage. As a group, the sponsors said that they all had witnessed leakage in participant accounts. However, they came to a consensus on ways in which leakage through cashouts could be managed or mitigated. These include:
- limiting hardship loans to one at a time
- allowing partial withdrawals
- providing auto repay features for employees who leave the company(portability solutions)
- tougher guidelines/enforcement for demonstrating hardship
Plan sponsors who implemented stronger controls showed lower leakage rates. Overall,sponsors found that their best defense to help participants prevent losing savings to leakage was to demonstrate the long-term effects of account leakage on their account balances. Plan participants invariably will need to take hardship loans. Helping those employees understand the consequences and re-evaluate intention to draw hardship loans for non-emergency purposes can greatly reduce leakage
