Saving for retirement may feel, and be, easier for those with an emergency savings account – and there’s a whole Secure 2.0 provision focused on it.
Secure 2.0, follow-up legislation to the 2019 retirement law known as the Secure Act, builds upon rules to improve Americans’ retirement security. As part of the law, defined-contribution plans, such as the 401(k), can include an emergency savings account beginning in 2024 – and employers can automatically enroll employees in these accounts with a contribution of no more than 3% of their salaries.
Contributions, which would be within the retirement plan and are only available to non-highly compensated employees, would be made after-tax through payroll deductions and maxed at a total of $2,500.
Secure 2.0’s provision on emergency savings allows plan participants to take the first four withdrawals from those accounts tax- and penalty-free.
“Emergency savings is an important part of retirement,” said Joe DeBello, managing consultant at OneDigital, a company specializing in employee benefits including retirement and wealth management. Participants with emergency savings tend to be more successful with their long-term finances, a BlackRock study found – “the more opportunities you give participants, the more likely they are to use it,” DeBello said.
See: Hardship withdrawals from 401(k)s reach ‘concerning’ all-time high, Vanguard says
Many Americans are vastly underprepared for an emergency. Almost a quarter of consumers have no emergency savings, according to the Consumer Financial Protection Bureau, and about four in 10 have less than a month’s worth of income for emergencies.
An emergency can have a harrowing effect on a person’s current finances, let alone retirement. In some situations, when there’s nowhere else to turn, workers must tap into their retirement accounts to fund an emergency. The pandemic provided clear examples of what a lack of an emergency savings account can do to a person’s retirement plans – in dire cases, Americans were borrowing money from their accounts, or taking distributions, putting themselves at risk of lowering their potential future investment returns and balances.
The government had briefly allowed investors to take distributions from their retirement plans without penalty in response to COVID-19 under the CARES Act, which also eased borrowing restrictions from these accounts. Usually, however, taxpayers face taxes and penalties for distributions, and taking a loan out of a retirement account without paying it back can be a risky decision should that worker quit or be fired from the workplace tied to that plan.
The latest law builds upon Congress’ efforts to bolster Americans’ retirements. Provisions include employer matches to retirement plans for employee student loan payments, increasing the age in which taxpayers are required to take required minimum distributions and expanding auto-enrollment in retirement plans.
Also see: My wife and I will have $250,000 in a retirement emergency fund
Not only does Secure 2.0’s focus on emergency savings help workers’ short-term finances – it helps their long-term goals as well, said Jeff Cimini, senior vice president of retirement product management at Voya Financial. Employees who felt comfortable with their current finances were more likely to participate and contribute to their retirement plans, he said.
Even the smallest emergency can deter an employee from participating in a retirement plan, and it could be the hurdle workers aren’t willing to jump to contribute to their workplace retirement accounts, said Tracy Hanson, director of retirement solutions at RBC Wealth Management. “This helps remove the barrier,” she said.
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