February 2008
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Cost: $6,000 to $17,000
Almost 45 percent of workers cash out their 401(k) accounts when they change jobs, according to a survey of some 200,000 plan participants by Hewitt Associates, a human-resources consulting firm. Workers ages 20 to 29 are the most likely to do this, but 42 percent of employees ages 40 to 49 make the mistake too.
Not only do they have to pay income tax on their withdrawals, but in many cases the IRS also imposes a 10 percent penalty. More important, they lose the tax-deferral they could have maintained by rolling the money into an IRA or other retirement account.
Most workers who cash out their 401(k)s get less than $10,000, but a third take $10,000 to $20,000, according to Hewitt. To get a range of likely losses, we assumed that a 40-year-old worker cashed out either a $5,000 or $15,000 account.
The IRS early-withdrawal penalty would slice $500 and $1,500, respectively, right off the top. If the two accounts were instead rolled over into, say, an IRA invested in stock mutual funds earning an average 7 percent annual return over 20 years, cashing them out would mean losing roughly $6,000 and $17,000, respectively.
What you can do. Never cash out money in a retirement account unless you have absolutely no other choice.
