Cash Out Your 401(k) Now!

Here's an interesting trend: According to several recent studies, many job-changers -- 40% or more in some age groups -- chose to cash out their 401(k) balances rather than roll the money into an IRA or their new employer's plan.

We all know that saving for retirement is important. Why would so many folks choose to cash out? Most often, the reason given is: "It isn't much money." It may seem that way to those cashing out, since the median value of these accounts being closed is about $7,000, according to one study.

Typically, the people cashing out are youngish folks who have been saving for only a few years, and that $7,000 isn't enough to seem like a drop in the bucket of what they're going to need 30 or 40 years from now. But as we'll see, that drop is like a seed -- it may not look like much now, but given time and proper care, it can feed you for a long time.

There's a reason it's hard to withdraw
The truth is, there's almost never a good reason to permanently take money out of your 401(k) -- unless you're rolling it into an IRA, of course. Even in cases of hardship, a 401(k) loan is usually a better bet. But that doesn't stop a lot of people, particularly younger people, from cashing out.

It's not hard to see why they'd do it. When I was in my 20s, I had several friends who changed jobs, noted that they had a few thousand dollars amassed, and decided to spend that money on a new car or a European vacation instead of rolling it over. When it doesn't seem like much money in the grand scheme of things, temptations like that can be hard to resist.

It's more money than you think
But what doesn't seem like much money now can become quite a bit through the power of compounding. Even $3,000, when invested at 9% a year at age 25, turns into almost $100,000 at age 65. Those who get started with retirement investing while in their 20s -- and who stick with it -- have a great chance of retiring with some very serious wealth. Or better yet, they may be able to retire early, with the money and youth to do anything they want.

Still not convinced? Check out these real-world examples of growth on a mere $1,000 investment over the past 20 years.

There you go: $7,000 in 1988, more than $135,000 today -- and the market has been pretty ugly for some of these stocks lately! Now, you're going to say that Microsoft is a ringer in that chart, and that's true -- but you'll have more than just old-school blue-chips in your portfolio, won't you?

On the other hand, look at how stocks such as GE and Pfizer have appreciated over time, despite low volatility -- and despite Pfizer's rough patch of the past several years. That combination of appreciation with low volatility is the reason our Motley Fool Rule Your Retirement newsletter service urges even young retirement investors to include stocks with strong dividends in their retirement portfolios.

Now ponder this: How much is that $135,000 going to grow over the next 20 or 30 years? If you manage a 9% return, which shouldn't be hard for a long-term retirement portfolio, you'll have more than $750,000 in 20 years -- without investing another penny.

On the other hand, if you had taken that $7,000 in cash -- more like $4,000 after taxes and penalties -- and used it to buy, say, a nicer car than you could otherwise afford, what would you have in 20 years?

Not much.

To learn more about how to invest that balance for long-term success:

• A Road Map to Wealth
• Asset Allocation for Retirement
• The Greatest Secret of All