Background: Although psychological distress is known to be a risk factor for death, there are relatively few data on the impact of psychological distress on incident functional disability in older adults. The aim of this study was to examine the impact of psychological distress on incident functional disability in older adults. Methods: We conducted a cohort study of 12,365 disability-free individuals aged ≥65 years who live in Ohsaki City, Japan. In 2006, the level of psychological distress was assessed using the K6 (range: 0–24 points). Data on 10-year functional disability were retrieved from the public Long-term Care Insurance database. The multivariate-adjusted hazard ratios (HRs) and population attributable fractions (PAFs) according to the K6 groups (<5, 5–9, 10–12, and ≥13 points) were estimated. Results: Among 94,636 person-years, incident functional disability occurred in 4533 persons (36.7%). Significantly higher risk was observed in higher K6 score groups. The multiple-adjusted HRs (95% CIs) of incident functional disability were 1.14 (1.06–1.22) for 5–9 points, 1.28 (1.15–1.43) for 10–12 points, and 1.62 (1.44–1.84) for ≥13 points, in comparison with <5 points (p-trend < 0.001). The PAFs in each of the K6 score groups were 3.0% for 5–9 points, 1.7% for 10–12 points, and 2.6% for ≥13 points. Conclusions: Even when mild to moderate, psychological distress had a considerable impact on incident functional disability in this cohort.