Any time you hear or see the words “financial literacy” it seems the topic immediately turns to credit cards: blaming banks and credit card companies for the woes of consumers.
Financial literacy is about more than just credit cards, credit card debt and how credit card companies prey upon poor, helpless individuals. Financial literacy is about education. It is about providing the necessary tools to make informed decisions when it comes to each individual’s personal financial situation.
Case in point: a recent survey by the business consulting firm Hewitt & Associates analyzed the behavior of 170 thousand 401(k) participants. The participants had one thing in common: they left their jobs and had to make decisions about what to do with the money invested.
The good news is that they had managed to establish a balance in their 401(k) retirement accounts in the first place -- an example of financial literacy -- however, the findings of the survey were more than startling, they were downright scary. Of the participants surveyed, 46% cashed out of the plan. That means they closed out their accounts, took the money, not knowing or caring about the ramifications of that decision. The following is the breakdown for each age group as it relates to cashing out accounts:
• 20-29 60%
• 30-39 47%
• 40-49 43%
• 50-59 34%
• 60-65 31%
• 65+ 31%
As good as this sounds -- and I am sure they were very excited with their new ‘cash windfall’ –doing so creates a series of problems.
First and foremost, the whole concept of establishing a 401(k) retirement account is to save money for retirement. By setting up an account early in life, one takes advantage of the two most important variables of investing/saving: TIME and COMPOUND INTEREST. In addition, there is also the advantage of tax-deferred growth.
Here is an example of what could be lost by cashing in a 401 (k) account. If the employee is in his/her 20’s with a balance of $5,000, leaving the money in the account at an earned average of 8% over 40 years will grow the balance to about $108,600. If the employee is in his/her 30’s with a balance of $10,000, leaving the money in the account at an earned average of 8% over 30 years will grow the balance to around $100,600.
By cashing out, participants not only abandon the basic concept of a retirement account, but are also subject to high tax penalties (up to 30% or more). This means the $5,000 yields only about $3,500 cash in pocket and the $10,000 around a mere $7,000. Spend the full amount prior to tax-time, and one can end up with a large tax debt due. In essence, one gives up $100,000 in future financial security for $7,000 or less.
There is no reason why people who have established a 401(k) retirement account should cash out the accounts when they leave employers and subject themselves to senseless taxation and compromised financial futures, only to start all over again when they begin their future positions.
This is a clear example of why financial literacy is about more than just credit cards. Financial literacy is about EDUCATION. Not just a formal school education is needed, but also life skills and workplace education.
Financial literacy must embody a holistic approach to personal financial planning to ensure that individuals can and will make well-informed monetary decisions. It is not just about credit cards. STOP focusing on credit cards! We need to think bigger picture.
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