The Coming Baby Boomer Retirement Crisis? Avoid Early Withdrawal Traps

The Coming Baby Boomer Retirement Crisis? Avoid Early Withdrawal Traps

Between 1946 and 1964, more than 76 million American children were born. The first of these "Baby Boomers" begin to reach the historic retirement age of 65 in 2011. By 2030 all boomers will be over 65 and will represent an estimated 20 percent of the population.

Two recent reports point to increased pain for Baby Boomer as they reach retirement age. The pain will stem from a lack of resources to fund their retirement and raises questions about the level of comfort Baby Boomers can expect in their retirement years.

The first, a report by the American Bankruptcy Institute and reported in the Wall Street Journal Blog on bankruptcy discusses the increase bankruptcy case filings for individuals between the ages of 45 and 64. Baby Boomers not only represented 42% of all individual bankruptcy case filers in 2007 but their bankruptcy filings are increasing as the percentage of filers grew 65% between 2002 and 2007.

The second report from Fidelity Investments show an increasing number of workers tapping their 401(k) accounts for loans and hardship withdrawals. documents the
11 percent of workers took out loans against their 401(k) plans during the 12 months ending on June 30, 2010, up from 9 percent a year earlier; 22 percent of plan participants had loans outstanding against their 401(k) plans compared to 20 percent a year earlier; and 2.2 percent of participants took hardship withdrawals in the last quarter up from 2.0 percent a year earlier. Although the withdrawals are not broken down by age, the increased bankruptcy filings suggest the Baby Boomers represent a large portion of those tapping their 401(k) plans.

The bankruptcies are disturbing because they demonstrate the everyday financial problems Baby Boomers are encountering as they struggle with the declining value of their homes, the stalled returns on their stock market investments. The insufficiency of interest rate returns, and the increasing difficulties on older Americans to find jobs as pointed out in the New York Times article, For the Unemployed Over 50, Fears of Never Working Again.

The one silver lining in the increased bankruptcy numbers is that most retirement accounts are protected from creditors in a bankruptcy case so the debtor will still have those funds for his or her retirement.

Withdrawing money from your retirement account may severely impact what the Baby Boomers will have at retirement because of the risks and costs involved. Sometimes referred to as a loan from one's self, you are lending to yourself on some bad terms.

First: the borrower has to pay back non-taxed money in the plan with taxed earnings so that there's a 15 to 30 percent premium.

Second: any appreciation in the investments while the money is withdrawn is lost.

Third: if the borrower leaves or is laid off from his or her current employer, the loan must likely be paid in full over a short period or will be considered a taxable distribution in which regular income tax applies and, if under age 59 ½, an additional 10 percent penalty applies.

Fourth: Some plans prevent you from making contributions until the loan is paid off.
Another withdrawal is a Hardship Withdrawal. This can only be made if there is an immediate and heavy financial need of the employee in an amount to satisfy the financial need. These permanently reduce the balance in the plan, are generally taxed with gross income, possibly with an additional penalty and no contributions can be made to the 401(k) plan for at least six months.

Should these trends continue, many Baby Boomers will struggle and suffer in their retirement years. However, the decisions they make in times of financial stress will be better if they are fully informed of their consequences.

Read more at The Road out of Debt Web site.