Why more Americans are raiding their retirement savings for emergencies

Americans are increasingly turning to their 401(k) retirement accounts to manage financial emergencies, with new data showing a record number of hardship withdrawals and cash-outs, particularly among hourly workers and those facing volatile incomes.

According to the latest retirement research from Vanguard Group, 4.8% of workers in 401(k) plans took a hardship distribution last year, more than double the pre-pandemic average of about 2%.

As reported by the Wall Street Journal, Vanguard found nearly one-third of individuals who leave their jobs each year are liquidating their 401(k)s, often incurring taxes and penalties, rather than preserving the funds for retirement. The $12.2 trillion held in 401(k) accounts is now serving not only as long-term savings but also as a financial safety net for many Americans.

The trend toward using retirement accounts as emergency funds is set against a backdrop of declining emergency savings. A new survey report from the FINRA Investor Education Foundation published earlier this month found that only 46% of US adults have set aside “rainy day” funds to cover three months’ worth of expenses, down six percentage points from 2021. The likelihood of having such a fund is closely tied to income, age, and education, with higher-income groups three times as likely to have emergency savings as those with the lowest incomes.

"After more than a decade of improvements, we're seeing many households – particularly in middle-income brackets – struggling financially despite stable incomes," said FINRA Foundation President Gerri Walsh.

The shift also comes as lawmakers have made it easier to access retirement funds for emergencies. Legislation passed in 2018 and 2022 expanded the list of circumstances that qualify for hardship withdrawals, including medical bills, home purchases, terminal illness, domestic abuse, and federally declared disasters.

According the FINRA Foundation's research, only 15% of US adults indicated having experienced a weather-related event that took a toll on their finances, though some states reported higher impacts, including 50% of those in Louisiana, 35% in Florida, and 28% in Texas. The data also show consistent pressure from medical expenses, with the percentage of respondents reporting unpaid, past-due bills from a healthcare or medical service provider hovering between the 21% to 23% level since 2015.

The most recent law allows penalty-free withdrawals of up to $1,000 for emergencies once every three years, with the option to replenish and withdraw again the following year. Employers can also automatically enroll workers earning less than $160,000 into emergency savings accounts within Roth 401(k)s, allowing up to $2,500 to be set aside and withdrawn tax- and penalty-free.

“For many workers, getting through today or this month is the more immediate concern,” Timothy Flacke, chief executive of Commonwealth, a nonprofit focused on helping low-income workers save, told the Wall Street Journal.

The research from Vanguard, which analyzed data from about three million 401(k) participants between 2008 and 2022, reveals that hourly workers are more likely to tap their retirement accounts than salaried employees. Among hourly workers earning $50,000 to $75,000, 42% cashed out their 401(k) savings after leaving an employer, compared to 28% of salaried workers with similar incomes. Hourly workers often experience monthly income swings of about 15%, making it difficult to absorb unexpected expenses without resorting to debt or retirement savings.

FINRA's research also offered a glimpse into income volatility among Americans, with 25% of the adults it surveyed in 2024 saying they've lived through an unexpected income decline sometime in the past year. Thirty-six percent of respondents to the FINRA Foundation survey also reported occassional or frequent swings in their income from month to month.

“Income volatility is proving a threat to retirement security. It’s a hard thing for people to manage,” Fiona Greig, global head of investor research and policy at Vanguard, told the Journal.