Changing jobs? Why you shouldn't cash out your 401(k)

When you move to a new job, you have an important retirement decision to make. If you had a workplace retirement plan, you must decide what to do with that account. About one-third of job hoppers in their 20s, 30s and 40s make a decision that can wreck their retirement: They cash out the money.

When you leave a job, you typically have a few options for what to do with your 401(k) savings:

• Leave it. If your account value is at least $5,000, you can leave the account with your old employer. You won't be able to make any new contributions, but your savings can stay put and continue to grow.

• Move the account to your new employer's plan. Some employers will let you to transfer your 401(k) assets into their plan.

• Move the money to a rollover IRA. You can make a tax-free transfer that sends your 401(k) money to an IRA account at a brokerage.

• Cash out the money. This is indeed an option. You can cash out all of the money or just a portion of it.

There are plenty of reasons that can make cashing out seem compelling. Maybe you are determined to wipe out some high-rate credit card debt, or take a much-needed vacation before you start your new job.

But the bigger issue is that you have reduced your retirement savings by more than the amount you withdraw. An academic study estimated that cashing out can reduce retirement wealth by around 20%.

That is because when you cash out today, you are giving up years when that money could grow tax-deferred.

For example, let's say you are 30 and land a great new job. You have $50,000 saved in the 401(k) at your old employer. You decide to cash out $10,000, but feel good that you are leaving the other $40,000 to keep growing. That's going to be a very costly decision.

The $40,000 will grow to $427,000 by age 65, assuming an annualized return of 7%. But if you had kept all $50,000 working for you, it would be worth nearly $535,000.

And remember, if you cash out $10,000, you are not going to pocket $10,000. The 10% early withdrawal penalty cuts it to $9,000 and then you have the income tax to contend with.