It might be tempting to take the money and run, but here are two reasons why you shouldn’t.
You’re going to work for a new company. As you clean out your desk, you think, Should I clean out my 401(k), too? The consulting firm Aon Hewitt reports that 43 percent of employees cash out when they change or lose their jobs, but it’s not a smart move. Here’s why.
You’ll pay a hefty fee. If you’re under age 59½, the Internal Revenue Service considers the payout an early distribution, which means you’ll pay a penalty of 10 percent of the total balance to the federal government, says Jean Setzfand, the vice president of financial security for AARP. (The exception: Those 55 or over can withdraw funds from a 401(k) with their employer penalty-free upon leaving the company.)
Taxes will take another chunk out of your cash stash. Besides the IRS penalty, you’ll need to ante up for federal income, state, and local taxes. “Add it all together and you could lose as much as 40 percent of your retirement money,” says Daniel Galli, a certified financial planner in Norwell, Massachusetts. (If you cash out at retirement, you’ll still pay taxes, but you may be in a lower tax bracket, and you’ll benefit from decades of growth and compound interest on your investment.)
So what should you do instead? Maintain your investment. You can roll over your account to a 401(k) at your new company or move it to an IRA if rollovers aren’t permitted, says Galli. (Ask the HR rep at your new job to clarify the options.) If you’re unimpressed by the 401(k) offered by your new employer—say, the plan fees are too high—just leave your assets where they are. Most employers allow you to keep money in your account when you exit a job, as long as the balance exceeds $5,000.