Personal finance during the plague: the lean months

Become a Patron!

A stylized fact about the course of the current pandemic is that while the economic impact was swift and severe, the effect on personal finances was muted by the rapid federal deployment of direct cash aid, in the form of “stimulus checks,” expanded and extended unemployment insurance payments, and Paycheck Protection Program and Economic Injury Disaster Loans.

In other words, the production and sale of goods and services was dramatically interrupted, but much of the income people received for that economic activity was replaced by federal cash assistance. On a national basis, this led personal income to actually rise, while consumption dramatically fell and the household savings rate consequently rose to 33%.

Those were the fat months. You were able to continue paying your housing and utility bills, and might have paid off credit card debt or built up a savings buffer for the first time in your life. You might have had enough to help out friends or relatives whose unemployment insurance claims were delayed or denied, or who were ineligible for assistance because they’re undocumented or don’t have a sufficient earnings history.

The fat months are over. As recently as July I thought the logic of expanded unemployment insurance benefits was irresistible, even to Republican senators, and the fight would be over whether to extend them just through the election, or through the end of the year. It turned out the logic was resistible, Republicans resisted, and unemployment benefits crashed in the first week of August. Now, bills are piling up, courts have begun processing evictions, and we’re entering the longer, darker phase of the crisis: a collapse in economic activity paired with a collapse in personal incomes. The lean months, if not years, have arrived.

File for unemployment insurance

Sure, it sounds obvious, but as shocking as the unemployment insurance claims data have been for the last 5 months, many eligible people still haven’t filed claims, for a multitude of reasons. Traditionally, there has been a waiting period before the newly-unemployed are even eligible to claim benefits, on the grounds that many of them are almost-immediately rehired (McDonald’s fires you so you walk across the street to Wendy’s). That waiting period was waived during the current crisis, but low-information workers with prior experience with the system may not know that.

Others may have waited to claim the benefits they’re entitled to from a confused sense of pride. I say “confused” because this is a bit like paying homeowners insurance premia your whole life then declining to file a claim where your house burns down out of “pride.” The benefits are yours, you paid premia out of every paycheck, claiming them doesn’t decrease anyone else’s benefits, and declining them doesn’t benefit anybody else. This is just masochism masquerading as pride, something anyone who has pledged a fraternity is familiar with.

And of course, some people may have delayed filing because of the incredible technological barriers the states allowed to fester over the years to discourage people from receiving the benefits they’re entitled to. However much you like money, seeing lines of cars miles long at claims centers is daunting enough that some number of people ultimately ended up daunted. Alongside the routine duties of daily life, the burden of an unfamiliar, archaic government bureaucracy can easily become too much to handle.

Fortunately, unemployment insurance benefits are retroactive to the date of your separation, including the $600 weekly federal expansion that ran from April 4 to July 25. Even if your weekly state benefit is low (all state benefits are low), that retroactive $600 in weekly federal benefits is an absolutely essential entry point to the lean months.

401(k) “loans” and distributions

Let me say up front, the terminology around 401(k) “loans” has always baffled me. The first time I heard someone say you could “borrow” money from your 401(k), I assumed they meant you could use your 401(k) balance as collateral for a loan. But it turns out, a 401(k) “loan” is just a tax- and penalty-free withdrawal that has to be returned to the account within a specified timeframe. If the funds aren’t returned to the account, you have to pay taxes and penalties on the pre-age-59 1/2 withdrawal. But the funds were yours to begin with, and they remain yours the entire time. In other words, it’s a withdrawal, not a loan, simply moving funds from one account to another, then back again.

Having said that, if you need additional cash to get through the lean months, and you didn’t panic during the early stages of the pandemic, your 401(k) may well be your largest liquid asset right now, and a withdrawal might make perfect sense. There are three things to keep in mind:

• Pre-pandemic, your employer may have, but was not required to, allow you to withdraw up to 50% of your 401(k) balance, up to $50,000 as a “loan.”
• Under the CARES Act, your employer may have, but was not required to, allow you to withdraw up to 100% of your 401(k) balance, up to $100,000 as a “loan.”
• Under the CARES Act, you can make a penalty-free distribution of up to $100,000 from your 401(k). The withdrawal is taxable as ordinary income, by your choice either in the year of withdrawal or split equally over the year of withdrawal and the following two years. You can also return the funds to your 401(k) and file (an) amended return(s) for the year(s) you paid taxes on the distributions. Repayments must be completed within 3 years of the date of the distribution.

There are two key issues here: your employer’s elections before and after the passage of the CARES Act, and your decision whether to take a “loan” or a distribution. If your employer restricts or forbids the size of 401(k) loans, your only option might be a distribution. But even if a loan is available, you might still prefer to make a distribution instead, for the simple reason that the CARES Act did not ease the regulations on the repayment of outstanding “loans” at employee separation. If you elect to take a “loan” instead of a withdrawal, then lose your job, you’ll usually have to repay the loan by the next year’s tax deadline or pay taxes and early withdrawal penalties.

In other words, a distribution gives you the option, but not the duty, to redeposit the withdrawn funds and file amended tax returns to reduce your reported income, while a loan obliges you to return the tax-free withdrawal or face both taxes and penalties. In our particularly late stage of capitalist degeneration, my strong suspicion is that savvy tax preparers will ultimately find a way to “recharacterize” loans as hardship distributions for tax purposes after employee separation, but remember that savvy tax preparers aren’t cheap either.

Penalty-free repayable IRA distributions

Here the situation is much the same as above, although simpler: you can make a taxable, penalty-free distribution of up to $100,000 from a traditional IRA (Roth IRA distributions are always tax-free, although the penalty on early withdrawal of earnings is also waived on those). The same 3-year repayment rule applies as well: you can file amended tax returns after repaying your withdrawal and receive a refund of any taxes you paid on your early distributions.

The question of whether it’s better to withdraw from your 401(k) or your IRA has to start with the question of how much money you need. If you need all the money in all your accounts, then you hardly have a choice. But if your investments are spread across 401(k) accounts and IRA accounts, and are more than enough to meet your needs during the lean months, the first place to look, as always, is at your investment options. Your 401(k) offers investments selected by your employer (or their delegate), and probably has higher fees and fewer options than your IRA. On the other hand, in rare cases your 401(k) might give you access to otherwise-closed investment vehicles you won’t have access to elsewhere.

SNAP, LIHEAP, and Medicaid

Finally we can jog through the main assistance programs still available to ordinary people after the “welfare reform” of the 1990’s:

• the Supplemental Nutritional Assistance Program offers a debit-card-style benefit that can be used for cold and packaged food at most grocery and convenience stores. During the crisis, benefits have been maximized for all recipients regardless of income (although they still depend on family size), and the program’s onerous work requirements have been suspended. This is the last “cash-like” benefit still available in the United States, and you should apply for it as soon as you lose work, since benefits are retroactive only to your date of application, not your date of separation.
• the Low Income Heating Energy Assistance Program is a benefit administered in most states (at least most states where it gets cold enough to need heating) through a partnership with utilities. Beneficiaries receive an energy credit towards their bills, plus in some states a subsidized price for electricity, gas, or heating oil. Importantly, all SNAP recipients are “categorically” eligible for LIHEAP, so it’s best to apply for LIHEAP after establishing eligibility for SNAP to minimize your paperwork requirements.
• Medicaid is the no-premium, no-deductible, no-copay health insurance program that paid for 43% of American births in 2018. It’s the ideal model for American health insurance. You may have straggled through a few months of COBRA coverage, trying to figure out whether to pay your premiums or finagle retroactive coverage. Forget it. Enroll in Medicaid. You’re gonna like the way you’re covered.

Conclusion

It’s not good, folks. The nation’s energies and resources are being squandered while hundreds of thousands die and tens of millions suffer needlessly. Those responsible will never be held accountable, and their victims will never be made whole. If grieving were enough, the crisis would have been over months ago. But we also have to act. These are the lean months.

Become a Patron!