When you leave an employer, you can then withdraw your 401(k) funds or roll them over to another 401(k) plan or to a traditional IRA. Your worst choice is to take a distribution, pay taxes and penalties, and then spend the money. By doing so, you use funds that could be accumulating on a tax-deferred basis for your retirement.
In addition, you'll probably incur a large tax bill, because withdrawals are subject to ordinary income taxes plus a 10% federal income tax penalty if you are under age 59 1/2 (55 if you're retiring).
Don't make the mistake of thinking the amount involved is small and won't make much difference for your retirement. Over the long term, even a modest sum can grow significantly. For instance, assume you have $10,000 in your 401(k) plan. If you withdraw the funds and are in the 24% tax bracket, you'll have $6,600 left after paying income taxes and the 10% federal penalty. Keep the funds invested earning 8% annually on a tax-deferred basis and your $10,000 could grow to the following amounts (before the payment of any income taxes):
| Investment Period |
Amount |
| 5 Years |
$14,693 |
| 10 Years |
$21,589 |
| 15 Years |
$31,722 |
| 20 Years |
$46,610 |
| 25 Years |
$68,485 |
| 30 Years |
$100,627 |
(This example is provided for illustrative purposes only and is not intended to project the performance of a specific investment.)
Your alternatives are to leave the funds in your former employer's 401(k) plan, transfer the funds to your new employer's 401(k) plan, or roll the funds over to a traditional IRA.
