More Americans Than Ever Made This Major 401(k) Blunder in 2025 (It Could Cost Thousands)

There is a worrisome trend in 401(k) retirement plans regarding early withdrawals. According to recent data from Vanguard, more people are taking hardship withdrawals than in previous years. There are a few reasons for this uptick. First of all, more people are being automatically enrolled in 401(k) retirement plans, including those who may not have wanted a 401(k) plan to begin with.

Another reason is that households are struggling to afford everyday expenses due to rising costs, inflation, and a shaky stock market. Here's what to know and what to avoid.

401(k) hardship withdrawals are at record highs

Many news stories focus on the record-high 401(k) balances. However, hardship withdrawals are also at all time highs. That means that while many people are benefiting from rising 401(k) balances, another group is struggling to manage their day-to-day expenses. According to Vanguard's How America Saves report, 6% of 401(k) plan owners took a hardship withdrawal in 2024.

Why are more workers making hardship withdrawals

Economic uncertainty and rising inflation are both factors causing many people to make hardship withdrawals. Additionally, recent data shows that nearly half of Americans are having trouble affording everyday expenses. And as part of the Secure Act 2.0, employees can now take a $1,000 hardship withdrawal without penalties, so long as it's for an approved emergency. Employees who take more than $1,000 in a withdrawal will have to pay an additional fee.

The high cost of making a hardship withdrawal from a 401(k)

According to the IRS, investors who withdraw money from their 401(k)s before age 59 and a half will have to pay a 10% penalty. They may also be subject to higher taxes, as any lump sum withdrawal will be taxed as ordinary income. These costs, fees, and taxes can reduce the total amount employees receive. Of course, the highest cost when taking a hardship withdrawal is the loss of investment income. Any money that employees withdraw from a 401(k) account is money that cannot work for them and compound for retirement. In fact, making a $10,000 early withdrawal today could mean tens of thousands of dollars less in retirement income.

The types of workers who typically make early 401(k) withdrawals

According to the Vanguard, the group of workers disproportionately affected by income instability is hourly-wage workers. The data show that 42% of hourly workers cash out their 401(k) when they switch jobs. Another group of workers who are more likely to make 401(k) withdrawals early is those with less than $2,000 in emergency savings. Salaried workers have greater income stability and, therefore, are less likely to make hardship withdrawals.

Steps to take to prevent making hardship withdrawals

There are a few steps that employees can take to prevent the need for making hardship withdrawals in the future. The biggest way to insulate yourself against financial emergencies is to have an emergency fund. Even a $1,000 emergency fund can help employees manage some of life's unexpected expenses and prevent them from withdrawing money early from their 401(k)s. Additionally, employees can consider other options available to them within their 401(k) plans, such as 401(k) loans. It's important to note, though, that 401(k) loans have their own drawbacks as well.

How to recover financially after making an early withdrawal

Even if employees take a hardship withdrawal, they can still recover financially and rebuild their retirement accounts. By making long-term savings a priority, employees can recommit to investing in their 401(k) plans through automatic contributions. By making automatic contributions in addition to building an emergency fund outside of their 401(k)s, employees can ensure they can handle any short-term problems that arise without having to tap into their retirement funds.

Where to get 401(k) advice

Choosing to take an early withdrawal from a 401(k) is a serious financial decision. As mentioned, it can cost employees thousands of dollars in lost investment returns, which can dramatically reduce their quality of life in retirement. Before making a hardship withdrawal, consult a financial planner. A financial planner can make sure that you're aware of all of the different options when it comes to your 401(k) plan. A financial planner may also have other tips on how to maximize your long-term retirement savings.

Bottom line

Investing consistently over time is the best way to achieve a stress-free retirement. However, many people encounter financial difficulties that lead them to make hardship withdrawals from their 401(k)s. By being aware of various funding options, including 401(k) loans, family loans, and personal loans, employees can understand different ways to handle their financial emergencies. 

However, creating a long-term plan, building an emergency fund, and tracking spending while living on a budget are other ways employees can ensure their financial health in both the short and long term.

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