Sit, Stand, Roll Over: Managing Your 401(k)

The following is a transcript of "Money Girl's Quick and Dirty Tips for a Richer Life," a podcast from QuickAndDirtyTips.com. The audio program is available via RSS feed here and at TheStreet.com's podcast home page.

Hello and welcome to Money Girl's Quick and Dirty Tips for a Richer Life.

Today's topic: Sit, stand, roll over.

Several listeners, including Maureen in New York and Michelle M., emailed me asking what they should do with their savings in an employer-sponsored retirement plan after leaving a job.

When you change jobs or retire, you have options about what to do with your employer-sponsored retirement plan, such as a 401(k). You can cash it out. You can leave it right where it is. You can transfer it to your new employer's plan. Or, you can transfer it into what's called a rollover IRA.

So how do you decide which choice is right for you?

Here are some important tips to consider.

Cashing out your 401(k) is usually not a good idea because it will cost you. You must pay state and federal income taxes on the money and, if you are under age 59 1/2, you must also pay a 10% penalty for early withdrawal. So if, for example, you have $10,000 in your 401(k) and you decide to cash it out after leaving your job, the 10% penalty would reduce your $10,000 to $9,000.

The $10,000 would also be reduced by taxes. If your combined state and federal tax rate were, say, 35%, you'd pay taxes of $3,500 on that $10,000 distribution. So after the penalty and taxes, you'd keep only $5,500 of your original $10,000. Ouch! For these reasons, cashing out is rarely a good choice. It makes sense only if you're facing a hardship and need immediate access to the money.

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