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Boon or bane?: 401(k) loans and loan provisions (Wenger & Weller 2011)

Citation

Wenger, J., & Weller, C. (2011). Boon or bane?: 401(k) loans and loan provisions. Available at http://ssrn.com/abstract=1941411.

Highlights

  • The study’s objective was to examine the impact of having a borrowing option in a defined contribution (DC) pension plan on contribution rates and total debt.
  • The authors used data from the United States Federal Reserve’s triennial Survey of Consumer Finance to estimate ordinary least squares (OLS) and instrumental variable (IV) regression models. Both models control for demographic characteristics and financial situation.
  • The authors found that having a borrowing option significantly increased both contribution rates and debt.
  • The quality of causal evidence presented in this report is low. This means we are not confident that the estimated effects are attributable to the borrowing option in DC pension plans. Other factors are likely to have contributed.

Intervention Examined

Borrowing Options in Defined Contribution Pension Plans

Findings

  • Being able to borrow from DC plan balances significantly increased contribution rates by 1.4 percentage points. In addition, those with a borrowing option had 41 percent higher total real debt compared with others with a DC plan, a statistically significant difference.
  • Wealth maximizers (but not nonwealth maximizers) able to borrow from DC plan balances increased their contributions by 3.7 percentage points, which was statistically significant.

Considerations for Interpreting the Findings

The Survey of Consumer Finance often has missing responses to the question about the availability of a borrowing option in a DC plan. The authors imputed responses to this question when the data were missing. The authors did not report the number of respondents with imputed data. However, they noted that many people did not answer this question, likely because they were not familiar enough with their retirement plan to answer definitively. Hence, the data imputation might be problematic because the data were likely not missing at random. That is, those who were more likely to use the borrowing option were more likely to know whether they had access to such an option.

The authors did not provide any information about the firms that did or did not offer borrowing against DC plans. There might be some key (observed or unobserved) differences between firms that select this option and those that do not. It seems plausible that firms that offer this option might also have additional pension plan options. This means there is a potential selection issue, and the authors did not adjust for this selection mechanism in the OLS regression.

The authors did not include a test of the instruments’ strength in their analysis of the IV model. In addition, the instruments used in the analysis might affect the outcomes of interest in multiple ways—not just via the endogenous variable—and therefore be invalid.

Causal Evidence Rating

The quality of causal evidence presented in this report is low because there is a selection issue in the OLS regression model and the instruments used in the IV model are likely invalid and no evidence was provided on their strength. This means we are not confident that the estimated effects are attributable to the borrowing option in DC pension plans. Other factors are likely to have contributed.

Additional Sources

Wenger, J.B., and Weller, C.E. (2014). Boon or Bane: 401(k) loans and employee contributions. Research on Aging, 36(5), 527–556.

Reviewed by CLEAR

December 2014