The Impact of Spending Spikes on Retirement Readiness

For households that experience spending spikes, lacking the income or cash reserves to support spending volatility is likely to increase their credit card debt or the rate at which they take a loan from their 401(k) plan, new EBRI research finds.

By linking 401(k) plan and banking data, the researchers found that households facing an unfunded spending spike—at least 25% above the previous 12 months’ median spending that households could not pay from income and cash reserves in that month—appear to first increase their credit card debt and then take a 401(k) loan.

Given greater inflation that occurred following the period studied by the report, spending spikes of the households would be exacerbated, says Craig Copeland, director of wealth benefits research at the Employee Benefit Research Institute and a co-author of the research.

“What’s happened to inflation has really made it harder for people to be able to cover their expenses, and therefore the trend is of consumer debt going up since 2020,” he says. “The most recent period [since 2020] would be worse [for household spending spikes] than what it was.”

U.S. inflation remained below 2.5% through the bulk of the period studied, 2016 through 2020, ending 2020 at 1.6%, according to the Bureau of Labor Statistics. Inflation has spiked since early to mid-2021, reaching 5.5% by the end of that year and 5.7% at the close of 2022. In 2023, inflation has moderated, lessening to 4.3% in August.  

Plan sponsors will want to look outside of the retirement plan—to participants’ spending and credit card usage—to support bolstering the retirement outcomes of participants, according to the research by EBRI and J.P. Morgan Asset Management, titled “How Financial Factors Outside of a 401(k) Plan Can Impact Retirement Readiness.”

The research found that household spending spikes are associated with increased use of credit cards and greater prevalence of retirement plan loans, driven by rising costs. 

EBRI and J.P. Morgan found that 90% of households encountered at least one spending spike in a given year—from 2016 through 2020—that could not be covered by their current income; more than one in three households could not cover their increased spending with their current income and cash reserves; and among participants who experienced an unfunded spending spike, 17% took a 401(k) loan, compared with 7% of participants without a spending spike.

The research showed that a household’s credit card utilization ratio—measuring the amount of revolving credit someone is using relative to their total available credit—plays a key role in determining whether a participant takes a plan loan.

“One statistic tells the story: The median credit card utilization ratio of participants taking a plan loan was 64%, compared with 17% for those who did not take a plan loan,” according to the researchers.

Compared with households with no spending spikes, the households that did experience a spending spike had lower income, higher levels of credit card debt and a greater likelihood of taking out a 401(k) loan, the researchers wrote.  

Higher debt levels can have a long-lasting impact on retirement security, since higher credit card utilization is correlated with lower 401(k) plan contributions and account balances, even when controlling for tenure and income, the researchers found.

Higher credit card utilization is also associated with lower retirement plan contribution rates, controlling for workers’ tenure in their jobs and income, the data showed.   

“For participants with tenures of more than 15 years and incomes between $75,000 and $100,000, the median 401(k) account balance is $184,000 for those with credit card ratios of 0%, [whereas] for those with credit card ratios of 80% to 100%, the median account balance is $80,000,” the researchers reported. “The 401(k) account balances of participants with more prudent credit card utilization were more than [two times] larger than those of their debt-burdened counterparts.”

Data for the report was sourced from the EBRI/Investment Company Institute 401(k) Plan Database and J.P. Morgan Chase Bank NA.