How Much Will I Get If I Cash Out My 401(k) Early?

Author: Siân Killingsworth / 19 Jun 2020 / 401(k) Resources

Considering a 401(k) withdrawal? Here’s how much you can get if you choose to cash out your 401(k):

• Traditional 401(k) (age 59.5+): You’ll get 100% of the balance, minus state and federal taxes.
• Roth 401(k) (age 59.5+): You’ll get 100% of your balance, without taxation.
• Cashing out before age 59.5: You will be subject to a 10% penalty on top of any taxes owed.

Cashing out early will also result in lost growth. Therefore, it’s recommended that you let your money sit as long as possible to reap the full reward of your retirement savings. Of course, in some scenarios, it’s easier said than done to let the cash sit.

How Much Will I Lose Cashing Out My 401(k) Early?

Consider this concrete example. Let’s say your plan allows early distributions, so you decide to take $10,000 out of your 401(k). You’re taxed at a federal rate of 22% and a state rate of 8%, so you’ll end up paying $2,500 in federal tax and withholding, plus $800 to the state. That means that you will be paying a hefty $4,300 from your retirement savings to receive $5,700.

Worse yet, assuming the average 8% year-over-year returns, leaving that $10,000 in the account could make you $68,485 over the next 25 years.

Should You Cash Out a 401(k) When Leaving a Job?

One option after you have left your employer is to have the plan administrator cut you a check for the full amount you’ve invested in the 401(k) plan. However, the check balance will only be for 70% of your 401(k) balance — with 20% deducted for taxes and 10% deducted as a penalty.

For most, a better alternative would be to roll the 401(k) over into a new employer’s 401(k), OR (if you don’t have a new employer yet) into a Solo 401(k) or IRA.

Arranging a custodian-to-custodian transfer within 60 days of leaving your job will not trigger a taxation event or a penalty. That way, your money can continue to grow and earn interest, and you can elect to take your regular distributions in retirement as originally planned.

Should You Take a 401(k) Loan or 401(k) Withdrawal?

Some plans allow loans from 401(k) plans as an option to get access to the fund for virtually any purpose. Maybe you want to travel, pay your child’s college tuition, put a down-payment on a new house, or cover the cost of a divorce. There are many personal reasons to consider a loan.

Generally, you can take up to 50% of the balance to a maximum of $50,000. The good news is that there is no age restriction, and there are no taxes due when you take out a loan. However, the loan must be repaid over a five-year period, with interest owed back to your account.

There is risk involved in taking out a loan. Some plans allow you to roll over a 401(k) (and loan balance) when changing employers. However, in other cases, you may have to pay your outstanding loan balance in full within 60 days of leaving an employer; otherwise, it will be considered a 401(k) withdrawal, taxed as ordinary income and subject to the 10% withdrawal penalty.

Compared to a loan, an early 401(k) withdrawal:

• Must have an option that allows for in-service withdrawals, which may be restricted by age or hardship.
• Will be taxed as ordinary income (while loans are generally not taxed).
• Can be subject to a 10% penalty if you’re under 59.5 (whereas there is no restriction with loans).
• Will not require repayment (as you would a 401(k) loan).

Are there any exceptions for getting 401(k) cash early without penalty?

You can cash out a 401(k) before age 59.5 without paying the 10 percent penalty if:

• You become completely and permanently disabled.
• You incur medical expenses that exceed 7.5% of your gross adjustable income.
• You are court-ordered to give funds to a former spouse or dependent.

In some cases, 401(k) cash with the 10 percent penalty is the best option. The purchase of a primary residence, higher education tuition, preventing eviction, out-of-pocket medical expenses, or a severe financial hardship can cause you to need the funds sooner rather than later.

The case for NOT cashing out a 401(k) early

Keep in mind compound interest only works if you leave the money sitting. When you cash your retirement checks early, you’re not only subtracting that sum from your future retirement, but you’re also negating potential interest accrued over the years and losing almost 30 percent of your balance to taxes and fees.

It may be tempting to view your 401(k) as your own personal bank account, but it can be so much more if you have the willpower to let your money work harder for you.

Are you considering taking money out of your 401(k)? Try our 401(k) calculator to see if this option is right for you.