Withdrawing money prematurely from retirement savings accounts–so-called “leakage”–is a main reason why those accounts do not reach their potential for providing long-term financial security, according to a Center for Retirement Studies report.
The report comes just as the TSP has made it easier for investors to make in-service withdrawals without a tax penalty after reaching age 59 ½. Under prior policy, only one such withdrawal was allowed lifetime, but now up to four per year are allowed, so long as they are at least 30 days apart. The TSP has reported an upsurge in such withdrawals since the policies were loosened in September, although to an extent that may have been a spike due to pent-up demand that will not continue long-term.
An age-based withdrawal while still employed is also a common feature of 401(k) and other similar retirement savings programs (as are financial hardship withdrawals). Loans also are allowable in the TSP and in similar plans for those still employed but unlike in withdrawals, which permanently deplete an account, loans are repaid back into the account.
The report said that leakage can occur not only through in-service withdrawals but also when account holders change employers and cash out their accounts rather than transfer them to an IRA or a retirement savings plan of the new employer. It said that estimates based on financial industry data and tax data show an average of 1.5-3 percent loss in account value overall per year for those reasons. That’s especially concerning, it said, given how the importance of personal savings for retirement security has grown.
Other major factors that make such accounts less valuable than they could be, it said, include employers who do not offer such accounts, under-participation by employees who have such accounts available, and administrative fees. Of those, under-participation is the most pertinent in the TSP since the program is available to all federal employees and the program charges notably low fees. About a third of employees under CSRS don’t invest and miss out on the tax advantages while about a tenth of employees under FERS do not invest and therefore miss out on both the tax advantages and matching employer contributions.