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In good news for Americans’ retirement security, new data shows Americans might finally be saving more for retirement. But Americans are also borrowing more from their retirement accounts, thereby potentially erasing a big chunk of these gains.

Over the 12 months ending in June 2015, Americans on average socked away a record high of $10,180 into retirement savings, according to recent data from Fidelity Investments. At the same time, more than 1 in 5 Americans – or 21.9 percent -have an outstanding loan against their 401(k). According to Fidelity, the average balance for these loans at the end of June was $9,720 – up from $9,500 a year ago.

Paradoxically, says Doug Fisher, Senior Vice President at Fidelity Investments, larger account balances might be prompting bigger loans. “I call it the ‘false sense of continued prosperity’ effect,” he said. “When 401k balances go up because the stock market rises, people feel like they have more wealth and borrow more.”

The actual result, however, could be significant long-term damage to Americans’ retirement security.

For one thing, Fisher says, many workers cut back their retirement contributions or stop saving altogether while they’re paying back a loan – often for as long as two years. This is particularly damaging for younger workers, Fisher said. “The insidious effect here is that if you’re in your mid-20s and early 30s, you’re reducing savings at a point in your career when early savings matter,” said Fisher. According to Fidelity’s data, 15.7 percent of millennials had an outstanding loan against their 401(k)s as of June 2015, with an average loan of $5,970.

Another problem is default. Under current tax law, any amounts that a worker fails to pay back are considered “early distributions” from the 401(k). In addition to paying income taxes on the amount still due, borrowers also face a 10 percent penalty.

These penalties are high enough that most 401(k) borrowers pay back their loans. Nevertheless, a recent study by the Wharton School’s Pension Research Council estimates that 401(k) loan defaults total as much as $6 billion a year. Roughly 1 in 10 loans are not repaid, the study further concludes, particularly if a worker leaves a firm. In fact, the study finds, “a vast majority – 86 percent – of employees who leave their jobs with a plan loan outstanding do default, exposing them to both penalty and any income tax due.”

Source: Fidelity Investments

One potential response to these problems might be to ban 401(k) loans altogether or increase the penalties for a default. But Fidelity Investments’ Fisher says that would likely backfire. If people feel that they can’t access their savings in an emergency, he said, they may choose not to contribute at all.

“You don’t want to overly restrict loans, especially for low or moderate income savers who need the loans more than others,” he said. “They’re still in the savings system to some degree, which is good.”

On the other hand, says Fisher, policymakers can take some small steps to prevent abuses or over-reliance, such as limiting the number of loans a borrower can take or limiting the amount that can be borrowed.

“Right now, people can do serial loans,” Fisher said. “You take out a loan to pay off the other loan and use the 401k almost as an ATM.”

Another approach is to address the underlying factors prompting Americans to borrow from their retirement savings. For example, savers with lower levels of financial literacy were more likely to borrow from their 401(k) accounts, according to another study by the Pension Research Council. Better financial education could help savers think twice before borrowing.

The Pension Research Council study also found that a majority of 401(k) borrowers used the loan proceeds for major expenses such as buying a home or a car, a home repair, or to pay for college, rather than for day-to-day consumption. This implies that a retirement savings account might be the only mechanism available to many Americans for medium-term or emergency expenses. Policymakers and the financial services sector may need to provide a new set of savings vehicles that can better fit medium-term savings needs.

Compared to “cash-outs,” 401(k) loans are not a major source of “leakage” from the retirement savings system. But they are prevalent enough to cause cumulative, corrosive effects. Although the percentage of 401(k) borrowers has been relatively steady from year to year, research finds that nearly 40 percent of Americans with 401(k) accounts have taken loans within the past five years.

And even if Americans might be saving more for retirement, two-thirds of households ages 55 to 64 have savings that are “less than one times their annual income,” according to the National Institute on Retirement Security.

Given the precarious state of Americans’ retirement finances, even small steps to shore up savings – including limiting Americans’ reliance on 401(k) loans – could matter a great deal to Americans’ future economic security.

Anne Kim

Anne Kim is a Washington Monthly contributing editor and the author of Abandoned: America’s Lost Youth and the Crisis of Disconnection. Follow Anne on Twitter @Anne_S_Kim.