Over 1 million people have been applying for first-time unemployment benefits per week over the last four weeks, according to the Department of Labor. That stat has been trending down slowly, but an alarming number of Americans are still out of work. With no new COVID-19 relief bills in sight, some are turning to the Bank of Mom and Dad (or another relative) to get some much-needed assistance.
Many older adults will happily give what they can to help their relatives through a tough time. Approximately 71% of retirees 50 and older said they would offer their family financial support even if it could jeopardize their own financial futures, according to an Edward Jones survey. But what many of them don’t realize is that decision could end up hurting them and their loved ones a lot more than turning down a request for financial help. Here’s why.
The cost of draining retirement savings to help family
Say your child has lost their job and they reach out to you asking for $5,000 to help them pay their bills over the next couple of months. You may not mind withdrawing that sum from your retirement savings, especially if you’re sitting on a six- or seven-figure nest egg. Plus, the government has waived the 10% early withdrawal penalty on retirement distributions for those under 59 1/2 during the COVID-19 pandemic, so you don’t have to worry about extra charges. Everybody wins, right? Not so fast.
You’re not just giving away the $5,000. You’re giving away the $5,000 plus all of the earnings you could’ve had if you’d left that money in your retirement account until you were ready to withdraw it. If you’d left the $5,000 alone for five years and it earned a 7% average annual rate of return, you’d have over $7,000. And if you left that money alone for longer, you could have even more.
If your investment portfolio has taken a tumble this year, you might also have to sell off more of your assets to get the $5,000 than you would’ve had to if you’d wanted to withdraw the same amount even a year before. That could set your retirement savings back further.
Oh, and let’s not forget about taxes if you’re taking the money from a tax-deferred retirement account, like a 401(k) or traditional IRA. The government is enabling people to spread taxes on COVID-19 hardship withdrawals over three years, but you’re still going to have to pay them, and you may have to withdraw more money from your retirement savings to cover the taxes unless you have some other source of income.
But the real problem comes later on if you run out of retirement savings due to your generosity when you were younger. Then you may have no choice but to rely upon your children for support. Covering all your living expenses will probably cost them a lot more than what you’ve given them over the years. It could also make it more difficult for them to save for their own retirements, and it may put their financial security in jeopardy.
How to help your family without cracking open your retirement account
It’s great if you want to help your family, but you have to be realistic about the support you can offer. If you’re concerned that giving a family member money could put your finances at risk later, explain this to them and try to help them in other ways.
Reach out to your network and see if you can connect your family member with employment opportunities to give them their own source of income right now. It could be a few odd jobs to make a little extra cash or a new full-time job if your relative has lost their regular job. You could also volunteer to watch their children or pets so they can find work themselves if you’re all comfortable with this arrangement.
You could help your family member apply for government assistance and hardship assistance programs with creditors. Look into unemployment benefits for those unable to work due to the pandemic or consider resources for low-income families, like SNAP Food Benefits. Many banks, credit card companies, and even utility companies are offering deferred payment agreements. These don’t get you out of paying your bill, but they enable you to put off making a payment for a few months without any negative effect on your credit score. Your balance might still accrue interest with one of these programs, but they can give you more time to get your finances in order.
If you do decide to give money to your family member, establish firm limits on what you’re willing to provide and offer a loan instead of giving money as a gift. Get the agreement in writing and give a copy to both parties so you can reference it later. Set up a payment plan and decide whether to charge interest on top of the initial sum you’re lending.
I’m not trying to discourage you from being charitable, but you need to remember the long game. Your retirement savings are worth a lot more than the dollar value you see right now. That’s what’s going to keep food on your table and a roof over your head for the rest of your life. And more importantly, it’s what’s going to keep you from becoming a financial burden on your family. So guard it carefully and don’t be afraid to say no if someone comes asking for a handout. You might be doing them a favor.
