Guides / Investment Strategies
Changing Jobs? Don't Forget Your 401(k)
What you do with your old 401(k) in the weeks after you leave a job can be worth thousands of dollars. Get it wrong and you could hand a big chunk of your retirement savings straight to the IRS.
In this guide
Why cashing out is the worst option
Say you've spent five years at a job, with a set percentage of your paycheck going into your 401(k) the whole time. When you leave, the first rule of thumb is simple: leave the money alone. You have 60 days to decide whether to roll it over or let it sit, and resisting the urge to cash out is the single most important decision in that window.
Here's why. If you take your distribution as cash, the plan administrator automatically withholds 20% for federal income tax. A $100,000 balance is already down to $80,000 before you've spent a dime. If you're under 59½, a 10% early-withdrawal penalty applies on top of that, taking you down to $70,000. There's a narrow exception: if you separate from service during or after the year you turn 55 (age 50 for public safety employees in a governmental defined benefit plan), the 10% penalty doesn't apply. But this exception is specific to 401(k) plans; it doesn't extend to IRAs, SEPs, SIMPLE IRAs, or SARSEPs.
And the 20% withheld up front is rarely the end of it. Because the distribution is taxed as ordinary income, you'll owe the difference between your actual tax bracket and that 20% when you file. In the 32% bracket, that's another 12%, or $12,000 on our example, bringing you down to $58,000. Add potential state and local taxes on top, and it's entirely possible to end up with a little over half of what you originally saved. That's a significant setback to your retirement timeline for the sake of a check you didn't need to cash.
Your alternatives
If your new employer offers a retirement plan, the simplest move is rolling your old account into the new one before the 60-day window closes. Your former plan administrator should have the paperwork you need to get started.
The cleanest way to do this is a direct transfer, where the money moves from one plan to the other without ever passing through your hands as a check. A direct transfer avoids all the withholding and penalty issues described above, and your savings keep growing tax-deferred without interruption.
One wrinkle: some employers require a waiting period before new employees can join the 401(k). If that applies to you, it's usually fine to leave your funds in your former employer's plan in the interim, since most plans allow departed employees to keep assets there for several months, and then roll the balance into the new plan once you're eligible.
The 60-day rollover rule
If your former employer cuts the distribution check directly to you, the IRS treats it as a cash distribution, and 20% will already be withheld from your vested balance for federal tax before you ever see the check.
That's not necessarily fatal. You have 60 days to roll the full amount, including the 20% that was withheld, into your new employer's plan or into a rollover IRA. Do that, and you avoid both the additional tax and the 10% early-withdrawal penalty, though you'll need to come up with the withheld 20% from other funds to complete a full rollover, since you only actually received 80% of the balance in hand.
If your new employer's fund lineup doesn't appeal to you, a rollover IRA is a reasonable alternative, giving you access to hundreds of funds and more direct control over your investments. Whichever route you choose, use a direct rollover wherever possible to sidestep the withholding issue entirely.
Leaving it where it is
If your vested 401(k) balance is above $5,000, you can generally leave it with your former employer's plan, where it continues growing tax-deferred until you're ready to move it or start withdrawals.
If leaving it in place isn't an option and your new job doesn't offer a 401(k), a direct rollover into an IRA is your best move, and the same logic applies if you're heading into self-employment instead of a new job.
Once you turn 59½, you can begin taking withdrawals from an IRA without penalty, taxed as ordinary income when you do. The IRS's "Rule of 55" offers an earlier out for 401(k) and 403(b) balances specifically: if you leave your employer in or after the year you turn 55, you can withdraw from that employer's plan without the 10% penalty, even before 59½. Whichever account you end up in, required minimum distributions begin at age 72, whether or not you're still working.
Related guide
Rolling over a 401(k) is just one piece of a bigger retirement picture. Our guide on Your Retirement Plan: How to Get Started walks through the rest.
Frequently asked questions
How long do I have to decide what to do with my old 401(k)?
You generally have 60 days from the date you receive a distribution to complete a rollover without triggering tax and penalties. If your former employer allows it, you can also simply leave the balance in the old plan indefinitely instead of deciding within that window.
What's the difference between a direct transfer and a 60-day rollover?
A direct transfer moves your money from one plan or IRA to another without it ever passing through your hands, avoiding withholding entirely. A 60-day rollover involves receiving a check with 20% already withheld, which you then have 60 days to roll over in full, meaning you'll need to cover the withheld 20% out of pocket to avoid it being treated as a taxable distribution.
Is cashing out my 401(k) ever a good idea when I change jobs?
Rarely. Between mandatory withholding, a possible 10% early-withdrawal penalty, and the remaining tax owed at your actual bracket, cashing out can easily cost you close to half your balance, on top of permanently losing that money's ability to keep growing tax-deferred.
What is the Rule of 55?
It's an IRS provision that lets you withdraw from your 401(k) or 403(b) without the 10% early-withdrawal penalty if you leave that employer in or after the year you turn 55. It applies only to the plan of the employer you're separating from, not to IRAs.
When do I have to start taking money out?
Required minimum distributions generally begin at age 72 for both 401(k) plans and traditional IRAs, whether or not you're still working, with limited exceptions for certain active employees still working past that age in an employer plan.
Changing jobs and not sure what to do with your old 401(k)?
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Schedule a consultationThis guide is for general informational purposes only and is not tax, legal, financial, or investment advice. It does not cover every situation or exception that may apply to you. Consult a licensed professional before making decisions based on this information.