New IRS Announcement on Contributions to 401(k) Plans – Millions of Americans Affected

Employer matched 401(k)s have long been a draw for employees when changing jobs. The option is attractive as, in a world where pensions are declining and Social Security benefits are not enough to cover expenses, saving for retirement has become a burden individuals cannot bear alone.

And while in theory these match contributions ease the burden, many employees find themselves unable to take advantage of them. Stagnating wages, a higher cost of living and extra expenses are some of the reasons why workers may prefer to keep their entire paycheck that contribute to a retirement account even if the perks are worth it in the long run.

The new change to 401(k) match by the IRS

Seeing how many of their employees do not take advantage of the 401(k) program, Fidelity reports that roughly 22% of employees don’t claim their full employer match on 401(k) plans, an anonymous company petitioned the Internal Revenue Service (IRS) to change the way this match works. Specifically, they wanted to be able to redirect the money into to student debt repayments or health reimbursement accounts as well as the traditional 401(k) accounts.

While this may seem an unorthodox idea, it is not the first time that this idea has been proposed, it is just the first time that the IRS authorized the change. The unnamed company proposal means that, from now on, at the beginning of each year, employees can choose to allocate a percentage of their prior 401(k) match to paying off student loan debt or fund a health reimbursement account to aid with medical bills. If no choice is made, the funds will be automatically directed to an employee’s retirement account.

Should this idea expand to more companies other than this first pioneer unnamed company, it could be a draw for many employees, especially those younger with high student loan debt or those older that can already foretell that they will have medical problems during retirement.

The downside of moving 401(k) contributions away from retirement

Saving for retirement is hard, and with the announces shortfall of Social Security coming soon, it will be the responsibility of Americans to ensure that they have enough savings to sustain them once they leave the workforce. This means they should prioritize saving a portion of their income for retirement, especially if they can double that amount in employer contributions.

Saving this money throughout their career will also give them the ease of compounding interest, allowing for their money to grow over time and helping savers avoid having to compound their contributions once the end is near. According to data from the Federal Reserve, the median retirement savings for households with people between ages 55 and 65 is $185,000, which is nowhere near enough to sustain them.

The counter argument for this approach is based on the fact that eliminating debt is always a good step to increase savings. Making aggressive payments towards medical or student loan debt can help individuals cut down on interests and pay their dent quicker, which would free up more income in the future that can be saved for retirement without the looming sword of monthly payments hanging over their neck.

This is especially true if the employees in question are not taking advantage at all of the employee match because of an inability to make ends meet, which translates to leaving money on the table that they have no way to claim. According to previous data from the Fed one in four Americans have nothing saved for retirement, including 27% who are already retired, and many of them also have previous debt that they need to pay off on limited Social Security income. Diversifying the contribution could help alleviate some of the economic burdens well as give some retirement savings to millions of Americans

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