Retirement Leakage

We commonly take the following steps when it comes to saving for retirement:

• Set aside a portion of our income for retirement
• If contributing to a employer-sponsored retirement plan that offers a match, contribute enough to get a full match
• When choosing investments for our retirement account, go with low-cost index funds (Warren Buffet agrees!)
• To make things simple and automated, choose target-date funds that start out aggressive when we’re young, and automatically adjusts to become more conservative as we approach the retirement age (target-date funds generally represent the year you expect to retire, i.e. “Fund Name 2055” would be for savers expecting to retire around the year 2055)

Basically: Save for retirement; get a full match if it’s offered to you; invest in index funds; don’t touch any of this money until you’re ready to retire.

Pretty straightforward, right? Not quite.

Life, as you may have experienced, isn’t straightforward: people get laid off from their jobs, or discover health problems, or face family emergencies.

The Wall Street Journal writes that “leakage” — taking money out of our retirements during our working years for personal reasons and not putting it back — can have a major negative effect on our retirement accounts. Life happens: a medical emergency may cause us to tap our retirement savings. A layoff might mean cashing out our 401(k) in one lump sum and taking the 10% penalty hit instead of rolling over the funds into an IRA. If you’re in dire financial circumstances, no one can really fault you for doing so.

All I can say is that — from my own experience — when I was laid off during the recession, I was only able to prevent “leakage” by pretending that the money I had saved for retirement did not exist (I may have even forgotten that it existed, which made all the difference!). Without having my retirement savings as a crutch in the back of my mind, I essentially had to figure out how to make my unemployment benefits work for me, and then hustle my way back into another job, which eventually happened. Incurring the 10% penalty would also make me hesitate before touching that money (which is precisely why the penalty is there in the first place).

What about you: Have you experienced leakage? Have you had to tap your retirement savings?

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