Why Not to Cash Out Your 401(k) When You Leave a Job

2. You lose growth potential

By contrast, that $20,000 will almost certainly become a whole lot more if you leave it alone until you retire. The money in workplace plans is invested, primarily in securities such as stocks and bonds; if you take it out, it’s no longer earning annual returns that are reinvested, further fueling growth. That can leave a dramatic gap in your financial security in retirement. 

Suppose you’re 40 when you switch jobs. The $20,000 in your “old” 401(k), if kept intact, would grow to more than $108,000 by the time you hit 65, assuming an average annual return of 7 percent. (The S&P 500 has averaged a 7.2 percent return over the past 30 years, adjusted for inflation.)

“No one is telling you the compounded value of those savings by the time you retire,” says Lynch. “Let’s say you’ve been working for someone for six years. When you change jobs and cash out, you’ll have to wait another six years to retire and save much more aggressively than you were before.”

Building your retirement savings is a long game, and cashing out early will disrupt your progress, says Taylor Kovar, founder and CEO of 11 Financial in Lufkin, Texas. 

“Taking an early payout from your retirement plan is a bit like fast-forwarding a movie,” he says. “You might satisfy your curiosity quickly, but you'll miss the full plot.” 

3. You risk running short in retirement

Put another way, that short-term gain could blow a hole in your future nest egg, with potentially serious consequences for your ability to maintain a comfortable standard of living in retirement or keep up with rising health care expenses as you age.

“Cashing out early may have negative implications, the most severe of which could be superannuation or outliving your retirement funds,” says Devin Carroll, owner of Carroll Advisory Group, a retirement planning firm based in Texarkana, Texas. “Even if you don’t get to that point, you may still jeopardize your ability to lead the lifestyle you planned for in retirement.”

The financial strain of losing a job can make it tempting to cash out, but it should be a last resort. If you have other savings, tap those first. Look for ways to cut your spending while you find new work. 

“Live within your means so that you are saving and not having to contemplate robbing the future you,” says Christopher Manske, a certified financial planner and president of Manske Wealth Management in Houston. “The best alternative to cashing out your retirement plan is to seriously consider the needs of that future you.”

4. You can roll it over

Leaving your job can be stressful, but managing your retirement plan doesn’t have to be. In most instances you have three relatively seamless options for dealing with an old 401(k) or similar account without incurring taxes or early distribution penalties or, in effect, robbing your future self. 

Leave it as is. You can keep the retirement plan you had if your previous workplace allows it, which is generally the case if there’s at least $7,000 in it. (The minimum went up from $5,000 to $7,000 in 2024 under the SECURE 2.0 Act, a federal law designed to enhance retirement savings.) You might want to do that if the existing account has low fees and investment options you like, but keep in mind that you won’t be able to make contributions or get an employer match.

Under IRS rules, if the account contains less than $1,000 when you leave, your ex-employer can cash it out and send you a check. You’ll have 60 days to deposit the money in another retirement account to avoid taxes and penalties. If the balance is $1,000 to $7,000, your old workplace is generally required to roll it directly into an individual retirement account (IRA), unless you instruct them otherwise.

Roll it into an IRA. If you can’t or don’t want to keep your previous employer’s plan, moving the money into an IRA allows you to avoid cash-out costs and maintain tax advantages. 

You can open an IRA with a bank, brokerage or financial adviser, which allows more hands-on control of your portfolio, or go with a robo-adviser, which largely automates the process and generally means lower fees. Once you’ve established the new account, contact your former employer’s retirement plan administrator and request a rollover. They’ll provide you with paperwork to execute the transfer.

Keep in mind that some IRAs default rollover contributions into cash rather than an investment fund, which generally means modest returns. If you want to direct your money into higher-yielding investments like stocks, talk to the IRA provider about your asset allocation when you roll it over.

Roll it into a new 401(k). If you start a new job that offers a retirement plan, you can transfer the balance of your old account into the new one. Contact your previous plan administrator, who can authorize a direct rollover into your new account.

Joining the new plan doesn’t require you to drop your old one, if you like it; other than the rules on small balances, there’s probably nothing stopping you from keeping both. Just don’t forget about the old 401(k) — millions of Americans do, leaving hundreds of billions in savings unclaimed, according to Capitalize, a company that facilitates retirement plan transfers.