Key Takeaways
- A provision in a retirement savings law now makes it easier for people to take emergency withdrawals of up to $1,000 from their 401 (k) accounts.
- Experts advise against taking early withdrawals from retirement savings, but it may be necessary in an emergency.
- To avoid touching your retirement funds early, try to build up an emergency fund, experts say.
A provision in a retirement savings law makes it easier to tap 401 (k) accounts for emergency spending without a penalty. That could help Americans who need cash in a pinch—if they’re careful.
Retirement accounts are meant for long-term saving. Starting this year, though, some 401 (k) participants can withdraw up to $1,000 for emergencies. Typically, early 401 (k) withdrawals have a 10% penalty, but a provision in Secure 2.0, a 2022 law, does away with that. People will also have to pay ordinary income taxes on emergency withdrawals.
“It gives you access to some hardship funds during an emergency,” said Preston Cherry, a CFP and Founder of Concurrent Financial Planning. “There is no shame or judgment to take the money so you can address the life event at hand.”
What To Know Before Accessing Your 401 (k) Funds For An Emergency
First off, not all employers offer this option. In 2023, 32% of employers said they were definitely adopting or likely to adopt the $1,000 withdrawal provision, according to a survey by Alight Solutions, a defined contribution record-keeping firm.
And taking money out means less opportunity for the account to grow and to enjoy its built-in tax advantages: 401 (k) plan contributions are tax-deductible and savings grow tax-free, so you don’t owe taxes until you take retirement distributions.
“You’re going to miss out on any growth” with an early withdrawal, said Chris Mankoff, CFP and Chief Portfolio Strategist at JTL Wealth Partners. “That really can harm your long-term retirement plan.”
Typically, if you tap your money early — before age 59 and ½ — you’ll have to pay income tax on your withdrawals plus a 10% penalty. You can avoid the penalty by taking a 401 (k) hardship distribution, which differs from the new Secure 2.0 provision because it requires workers to show employers that they have an immediate or heavy financial need to cover specific costs like medical expenses or disaster recovery.
According to a report by Vanguard, the percentage of people taking advantage of hardship withdrawals ticked upwards between 2022 and 2023, rising from 2.5% to 3.6%. Nearly 40% of people said they were accessing their money early to avoid home foreclosure or eviction, while 32% said they were using it for medical expenses, the report found.
You Can Pay Back Emergency Withdrawals—or Tap Other Emergency Funds
Workers can use the Secure 2.0 provision to secure funds to pay for any personal or family emergency expenses.
“As opposed to other exemptions from 401 (k) where you can pull money out for [things] like medical expenses, this [provision] is pretty broad,” said Scott Sturgeon, a CFP and founder of Oread Wealth Advisors.
Cherry recommends taking advantage of the Secure 2.0 provision only if you have no other options. He also notes limits on the number of early withdrawals people can take under the Secure 2.0 provision: You can only take one withdrawal per year, but only if you pay it back within the next three years. If you don’t pay the withdrawal back, you can’t take another withdrawal during that three-period. Your balance must also be at least $1,000 after the withdrawal.
Emergency funds are another option for those who can save the cash. Cherry encourages people to try to save three or six months of expenses. “It’s customizable [based on] your household,” he said.
