Senate proposes ban on 401(k) debit cards

Debit cards linked to 401(k) accounts are far too easy to abuse, lawmakers are saying. For every $1,000 drawn from retirement savings, an estimated $10,000 is lost in retirement income, says Sen. Charles Schumer, a New York Democrat who is in opposition of 401(k) debit cards, which have recently been revived by companies seeking to "capitalize on tightened access to consumer credit," according to Thomson Reuters.

The 401(k) debit card acts as a hybrid of both a debit and a credit card with which consumers have quick access to their retirement savings, but the card also includes minimum payments, interest and fees paid to the card vendor.
In May, FINRA issued a warning to consumers about these debit cards, urging that while they may have advantages, certain drawbacks, like interest, fees and failure to pay back a loan on time, must be considered before use of the card.

U.S. Senate members are now fighting for legislation to ban the cards, citing "reckless" practices on the part of companies that are offering them.

"After retreating over the last few years, companies looking to raid Americans' 401(k) accounts are making a comeback," Schumer said. "A decade ago, the mere idea of this legislation was enough to get companies to abandon this reckless practice," Schumer said. "This time, we want to push this bill all the way to becoming law."

Information sourced directly from FINRA: What is a 401(k) debit card and how does it work?

A 401(k) debit card is like a debit and credit card rolled into one. It acts like a debit card because it allows you to access and spend your own money, rather than someone else's. It also acts like a credit card because you can repay your balance over time, and you pay interest and fees on the money you spend.

When you use a 401(k) debit card, you are borrowing from your 401(k) account. If your plan allows these cards and you choose to use this feature, your employer must first approve the amount you may borrow based on how much you've saved for retirement. That approved amount of funds is set aside in a separate money market fund and will generally earn dividends on a tax-deferred basis until you use the debit card or write a check against the account. Your returns in this account may or may not be as high as those that your other 401(k) assets could earn.

You don't need separate approval for each transaction. The total amount that you borrow each day, whether by swiping your card or writing checks, is aggregated and counts as a single loan. This means you could have multiple loans, each with a different repayment term. Generally the amount of total borrowing may not exceed the amount that has been approved. If it does, your employer may impose a penalty or may approve the additional amount -- it depends on the employer's plan guidelines.

You can be approved for a revolving line -- like a credit line -- meaning that your payments are added back to the total amount approved and can be borrowed again. Or your employer may only allow a non-revolving line, which means that you won't be able to borrow back the funds you've repaid unless you get approval for a new loan amount.

For more information on the pros and cons of using a 401(k) debit card, visit www.finra.org.

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