Is the 401(k) doing too much?

Retirement plans aren't just for retirement anymore. Thanks to federal legislation, 401(k)s can be used to pay off student loans, build emergency savings, set aside money for health care or even buy a first home.

The list has grown so long that some experts are asking a new question: Is the 401(k) doing too many things? With employer-sponsored retirement plans serving so many other purposes, could their original mission — helping Americans save for retirement — get crowded out?

This is the concern of Richard Kaplan, chair of the University of Illinois College of Law and fellow at the Employee Benefits Research Institute. In a study he authored, "Analyzing the New Planning Opportunities in Secure 2.0 for Retirement Plan Participants," he worries about the "overloading" of these accounts.

"When you've created all these potential options to take money out of the 401(k), don't be terribly surprised that people reach retirement and not much is there," Kaplan said in an interview. "Or certainly not as much is available there, because they had more immediate needs, and that was allowed by the law."

In particular, the law Kaplan is thinking of is Secure 2.0. This sprawling retirement legislation, which contains more than 700 sections, enables a wide variety of new uses for retirement plans. Under the 2022 law, 401(k) users can withdraw savings — without the usual 10% tax penalty — to cover certain emergencies, pay for long-term care insurance or escape domestic abuse, among other purposes. There's even a clause for student debt, allowing borrowers to pay off their loans instead of saving for retirement — and still earn an employee match.

Each of these issues is important, Kaplan said. But he wonders if the 401(k) is the right device to address them all. With so many opportunities to withdraw or divert these savings, how much will be left for retirement?

"It's too tempting," Kaplan said. "And the more temptations that have been added, the more people will say, 'Well, this is available. Why shouldn't I do this now?'"

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Some financial advisors, whose job it is to encourage retirement savings, express the same concern as well as another one: The plethora of new features has made plans confusing.

"Congress has made the 401(k) plan a Swiss Army knife," said Daniel Galli, a principal at Daniel J. Galli & Associates in Norwell, Massachusetts. "Financial planners can use these tools very effectively, but it may be a challenge for participants."

There is some evidence of this conflict of purposes. On the student debt front, researchers at the National Bureau of Economic Research projected that Secure 2.0 will indeed help borrowers pay off their loans. But in terms of retirement, savings are expected to fall behind for years and then barely break even — a less than impressive result for a law designed to shore up people's nest eggs.

"We show that, as intended, the reform will boost peoples' loan repayments, while [their] own retirement plan contributions fall prior to about age 50 and catch up after that," the study's authors wrote. "At retirement age, 401(k) assets are similar to those pre-reform."

Not everyone agrees that retirement plans are being overloaded. Paul Richman, the chief government and political affairs officer at the Insured Retirement Institute, is a big supporter of Secure 2.0 and similar reforms.

"In our opinion, 401(k)s are very important," Richman said. "But we also know that during their working lives and even in retirement, [some Americans] may have some unforeseen, unexpected financial needs, and their only source of savings is their retirement savings."

Even in those cases, Richman pointed out, the penalty-free withdrawals are not limitless. In the case of domestic abuse, for example, a survivor can take out either $10,000 or 50% of their 401(k) savings — whichever is smaller. And in order to be refunded for the resulting income taxes, they must repay the amount within three years.

"There are guardrails in place for all these various purposes," Richman said. "It's not like, 'Hey, let me go take out whatever I want from my 401(k) anytime I want it, because I meet one of these criteria.'"

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And within those limits, he said, these features serve an important purpose: They lure more workers into employer-sponsored retirement plans. And the earlier people opt in, the more they'll save for retirement in the long run.

"It's actually a good incentive to contribute to your retirement account, rather than not contributing and putting it in your own savings account," Richman said. "The sooner you start saving, the better."

But there may also be another, broader cost to using 401(k)s to address so many social ills. In Kaplan's view, this approach may be sapping the political will to solve all these problems at their roots.

"The biggest harm is that they take away public policy focus addressing the problem directly," Kaplan said. "Is there a problem with long-term care? That is, we don't have any federal coverage. Well, maybe that should be the focus of federal legislation."

Another example is health care in general. Secure 2.0 includes a number of 401(k) features to help Americans cope with exorbitant medical costs, but Kaplan sees that as more of a band-aid than a cure. 

"Yes, allowing a deduction for medical expenses softens the blow," he said. "But perhaps the problem is that the U.S. health care system is incredibly expensive and that people's coverage is not comprehensive. Maybe we should have some kind of health reform."

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Of course, one version of that reform was the Affordable Care Act, which was passed in 2010. But 14 years later, Americans still pay more for health care than citizens of any other wealthy country, according to the Peterson-KFF Health System Tracker.

Is it time for more comprehensive reform? Kaplan pointed out that in most other developed countries, citizens don't need to dip into their retirement accounts for medical costs because they have universal health care. But one thing that Kaplan and Richman agree on is that's unlikely to happen here.

"There's a lot of opposition to universal health care insurance," Richman said. "You may not be able to get that done."

In the meantime — for health care as well as a whole host of national problems — there's the 401(k).

"It's treating the symptom, and it's better than nothing," Kaplan said. "It's not really taking care of the problem, but this may be the best that our political system is going to be able to generate."