Just Put It on My 401(k) Debit Card

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Borrowing against your nest egg is becoming as easy as stopping at an ATM.

A growing number of companies now offer employees the option of being issued a debit card that taps a 401(k) loan. The card, called ReservePlus, allows workers to withdraw funds from their 401(k)s.

The immediate concern for consumers is that impulse spending desires could trump their long-term savings needs.

Here's how it works: After a company adopts the program, employees can transfer their approved loan line into a ReservePlus account online. Later, they receive a debit card that they can use to take out as much or as little as they need of the loan amount -- on average taking out 35% less than they applied for, says David Young, director of Reserve Solutions at The Reserve, the company offering the cards.

The loan begins only after the money is removed from the account. Instead of a payroll deduction, participants are billed directly, and then pay back the loan through the same mechanisms used to repay a credit card. Depending on the employer, some may also qualify for a revolving loan -- taking out and paying back money as they need it.

The ReservePlus loan program is growing. The card was first offered in 2003, and Young says employees who have used the debit cards for loans now number in the thousands.

"There's a lot of interest in what we're doing," says Young. "It's a unique and logical solution to an archaic process."

The debit cards are "not for everybody," Young says. But adds, though, that the cards give people a sense of confidence and control, which in turn encourages otherwise reluctant people to participate in retirement programs, knowing that their savings won't be locked up for decades.

Critics contend use of the cards risks depleting already skimpy retirement savings. "Big picture: it just takes us out of the context of a 401(k) loan being a loan of last resort," says Jean Setzfand AARP's Director of Financial Security. "Seeing what we see, [with retirement savings] not quite where we want to see it, we're just afraid that this is going to deplete it further."

The card clearly has benefits for human-resource departments. The 401(k) debit-card program means that it no longer bears the administrative burden of creating amortizations schedules and collecting loan payments. And the program is free for them to adopt: employees pay for the programs administration through an initial sign up fee and interest on their loans.

The plan has major advantages for employees as well.

Generally, with traditional 401(k) loans, employees must pay back their loan within 60 days of leaving a job or be subject to hefty tax and early withdrawal penalties. But with ReservePlus, an employee is able to continue paying the loan off of its initial course -- typically five years -- regardless of employment. Young estimates that traditional loan programs' lack of portability causes $50 billion a year to be leaked out of retirement programs. And employees have an easier time paying back loans early: rather than a set payroll deduction, employees can pay back as much as they choose each month -- on average paying 14% more than the minimum payment, says Young.

But easy access to money can be a double-edge sword. Employees pay for the convenience: The interest rate on ReservePlus loans is 2.9% higher than the prime rate, which is higher than traditional loans, and employees pay an initial set-up fee. And, according to a federal government study into the country's low retirement savings rate, though there is no data, loan defaults are "expected to be much lower where repayments are made by payroll withholding." ReservePlus currently offers no payroll withholding option, but the company says it will introduce one shortly.

And critics argue that in some cases debit cards may encourage unnecessary borrowing. "By making it a debit card, you make it sound like the loan that you take on the 401(k) for everyday purchases," says AARP's Setzfand. "In our opinion, a 401(k) loan should only be taken as a loan of last resort, for a dire medical situation, or if there's no other way to get a home loan, not to go shopping."

Indeed, a November study by the U.S. Government Accountability Office into the country's low retirement savings rate found that preretirement access to funds may lead to lower retirement savings, though it also cited evidence that a loan feature increases retirement plan participation.

Using ReservePlus loans as a mechanism to increase retirement savings participation just makes sense for some demographics, says Young. The participation rate for the GenY age group is low because people "don't want to tie their money up in a program they can never access during their working years. People want to be in control of their retirement plan savings, and when they feel in control, they're more likely to participate or contribute at higher levels." And it makes stable lending possible for seasonal employees and industries with high employee turnover.

Fred Barstein, president and chief executive of 401(K) Exchange, adopted ReservePlus for his employees almost a year ago. He says the program hasn't changed the frequency with which his workers take out loans against their retirement, or the size of their loans, but it has created a stable loan program for his largely transitory work force -- about 75 of his 110 employees work in the call center. As the head of a company, who helps plan sponsors and advisers find the right plan, he says, it was particularly important for him to provide his employees with a "state of the art plan."

Still, Barry Kublin, president of BPA-Harbridge, an employee-benefits company with 15% of its outstanding 401(k) loan portfolio comprised of ReservePlus loans, says there is some resistance to the product's adoption. Investment advisers, he says, worry about money leaving the plans and employers worry about employees squandering their savings.

"It's a young technology, and clearly requires education to address misconceptions," says Kublin. "Do we deny the overwhelming percentage of 401(k) participants a portable convenient loan product that is responsive to their needs because of the irresponsible few?"

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