Hardship Withdrawals: Understanding the Impact on Retirement Savings

Saving for retirement in the United States has come to a fork in the road, with employees using small business retirement plans taking both paths at various times, depending on their circumstances.

A wider view of retirement savings reveals more small business owners (39.6%) are offering retirement plans over the past 12 months, an increase of 1.4% year-over-year as of May 2025. This slight boost could be attributed to an additional four states in 2024 — Maine, New Jersey, Delaware, and Vermont — mandating the establishment of workplace retirement plans, joining seven states that have had mandates in place starting with Oregon back in 2017.

More good news: For the first time, the percentage of employees participating in retirement savings plans is greater than those who aren’t using retirement plans, with 50.5% now participating. This includes a 1.7% year-over-year increase through May 2025, according to Paychex data on businesses with 1-49 employees that offer retirement services and have employee participation in such plans, regardless of whether Paychex is the plan provider or not.

Despite the success of getting more small business employees to start saving for retirement through a workplace plan, average portfolio balances have decreased since Feb. 1. One of the main reasons is hardship withdrawals.

Let’s look at hardship withdrawals — how they impact retirement savings, what options are available to offset the need to take a distribution, and what employers can do to help.

What Is a Hardship Withdrawal?

A hardship withdrawal is taken when individuals need money immediately to handle an unexpected heavy financial expense. There are implications — a 10% penalty from the IRS, with some exceptions — to accessing retirement account funds* through a hardship withdrawal. This type of withdrawal requires the individual to certify their eligibility if the individual is not 59½.

Some qualifying reasons for a hardship withdrawal include:

• Medical expenses: If the costs exceed a certain percentage of adjusted gross income.
• Primary residence: Costs related to purchasing or repairing it.
• Education: Postsecondary education expenses for an employee or a family member.
• Eviction or foreclosure: Payments to help avoid separation from principal residence.
• Funeral expenses: For certain family members or beneficiaries.
• Natural disasters: Losses to an employee's residence or workplace in a federally declared disaster area, if the retirement plan allows for a disaster distribution.

An amendment in the SECURE Act 2.0 created a few special early distributions for which the 10% penalty would be waived. These include, but are not limited to, expenses related to the birth or adoption of a child and those incurred by a victim of domestic violence.

Why Are Hardship Withdrawals on the Rise in 2025?

In May 2025, a record-high of hardship withdrawals were reported — more than 1,500, according to Paychex 401(k) recordkeeper data. Overall, through the first five months, hardship withdrawals are up 28% year-over-year.

In 2022, a surge began following a five-year period from 2016 to 2021 in which hardship withdrawals were relatively steady. However, hardship withdrawals in 2022 saw an 85% increase year-over-year from the previous five-year average, and it continued to balloon: a 208% increase in 2023, a 318% increase in 2024, and a 365% increase in 2025.

Why? As businesses and employees began recovering from the COVID-19 pandemic, Congress waived the 10% penalty on hardship withdrawals with an amendment to SECURE 2.0. People took advantage.

Economic uncertainty as of late is driving the continued use of hardship withdrawals:

• Tariffs are pushing up the costs on imported goods such as cars (car parts) and clothing
• Inflation in May ticked up to 2.4% as grocery prices continue to eat away at people’s paychecks
• Involuntary collection of student loans that had been in deferment for five years

With hiring remaining relatively unchanged for a fifth-straight month in May, according to data from the Paychex Small Business Employment Watch, and hourly wage growth hitting a four-year low, employees often are turning to their retirement accounts for any extra money to counter the shortfall.

“There have always been hardship withdrawals. That’s nothing new,” said George Conboy, Chairman of Brighton Securities, a wealth management services group in Rochester, N.Y. “Many times, the people making these decisions might have no other assets (to help fund an unexpected, large expense).”

Is a Hardship Withdrawal Worth It?

Obviously, removing money from a retirement account leaves less money in the account. The average portfolio balance, according to Paychex data, dropped 4% between Feb. 1 and May 31, 2025. That’s about $2,200 less from accounts where the average balance is a little more than $61,000.

With the average and median balances what they are, consider this: Since 2023, the year-to-date average hardship withdrawal has been a shade less than $9,000, which average-wise is trending in the right direction. In 2022, the average was about $10,300, which itself was down from about an average of $11,800 in 2021.

The decrease in the amount taken for a hardship withdrawal seems to indicate that people might have found different avenues to take when financial emergencies arose. However, there is another trend that might reveal that financial circumstances are worse than what is being reported.

Data over the past decade shows that 27% of the more than one out of every four participants in a retirement plan who took a hardship withdrawal have taken multiple withdrawals. In fact, taking multiple hardship withdrawals has increased in recent years, which might offer an explanation as to why the average withdrawal itself has decreased. Participants are taking smaller bites at a time, and data supports that: the second withdrawal averages 26% less than the first (nearly $8,000 compared with about $11,000), according to Paychex data.

“People who ignore the tax impact do so at their own peril,” said Conboy, who noted that each time an individual accesses a retirement account, they incur another 10% penalty. “Participants should know the tax implications, which include the penalties, and that the withdrawn money is considered income by the IRS and taxable at the proper bracket.”

Conboy also said that people sometimes take more than needed to cover the taxes. However, retirement accounts used multiple times for hardship withdrawals also have less money available to work in the market for participants.

“Your retirement account could produce less-than-desired results over time,” Conboy said. “That’s the opposite of what you want.”

How Can Employers Help Employees With Retirement?

As of May 2025, 42.6% of small businesses offer a retirement plan in states mandating workplace plans. Only 38.0% offer workplace retirement plans in states without a mandate, according to Paychex data, the largest gap in offering rate yet.

There are 11 states that mandate employers offer a state-facilitated retirement plan or an equivalent. Several more states in 2025 and early 2026 will launch programs, albeit in some states these plans will be voluntary, and all but three state legislatures have proposed bills to implement plans in the workplace in the past decade.

These mandates certainly increase retirement savings opportunities for employees while also helping an employer offer a highly sought-after benefit. Employers could also offer a financial wellness program, which includes education on retirement planning and the implications of taking a hardship withdrawal.