A common question we receive from our former military clients is what to do with funds they have built up in their Thrift Savings Plan (TSP). Leaving funds in the TSP or rolling them into your 401k/IRA is a big decision and should not be taken lightly. There are many factors to consider, and we’ll go through some of them here.
This is not meant to be an all-encompassing treatise on the best path for you, but it will give you some things to consider and discuss with your spouse or trusted financial planner. I personally made the decision to roll my TSP funds into my workplace 401(k) and have recently completed the process.
Before we consider some of these factors, it is important to note that many military personnel who served in a combat zone and received tax-exempt pay will have some additional complications with their TSP funds.
If you made traditional (pre-tax) TSP contributions with tax-exempt pay, those contributions are not taxed when withdrawn, however the earnings on those contributions are. These tax-exempt funds will be delineated in your TSP statement.
Until recently, leaving tax-exempt funds in the TSP or receiving a check were your only options as other custodians had no systems in place to track these tax-exempt, pre-tax contributions. However, it is now possible to roll these tax-exempt funds into a Roth 401K or Roth IRA.
If you made Roth (post-tax) contributions with tax-exempt pay it is treated the same as the rest of the balance since Roth contributions and earnings are always tax-free (assuming it’s a qualified withdrawal).
Note: Personally, if Roth TSP was an option when I was receiving tax-exempt pay, I would have selected the Roth option without question.
Below are five factors to consider when deciding what you should do with your TSP:
- The Annuity Option:
An important consideration is the annuity option. If you and your trusted advisor have determined that an annuity should be (or likely will be) a part of your financial plan, then you would want to evaluate the annuity option within the TSP before going a step further.
On my last year-end TSP statement, a Single Life annuity was available with a 7.7% payout rate, or for a Joint and Survivor annuity the payout rate was 6.6% (assuming age 67). You would want to compare these options with other commercially available annuities.
- The G-Fund:
There is an investment option available in the TSP that is not available anywhere else and that is the G-Fund. It is essentially a money market mutual fund on steroids. The treasury securities in the G-fund are specially issued to the TSP. The securities earn a long-term interest rate. However, they are redeemable on any business day with no risk to principal. If a large allocation to a money-market-type investment is part of your financial plan, then the G-fund may be an important consideration.
- Investment Options and Expenses:
In the TSP there is a menu of five “core” funds (plus the target date options). The funds are all based on large, well-known indexes and are very inexpensive.
At one time the TSP had the lowest expense ratio funds available anywhere. That is not the case anymore as there are plenty of low-cost exchange-traded funds (EFTs) and mutual funds that compare or even beat the options within the TSP.
Additionally, an IRA or 401k offers a much broader universe of investments to choose from. However, if having hundreds of investment options seems daunting to you, then it is hard to beat the simplicity of the TSP.
- Withdrawals and Distributions:
There are four options for withdrawals from the TSP:
- Partial distribution
- Full distribution
- Installment
- Annuity purchase (discussed above)
With a partial distribution, you are limited to one every 30 days. In a 401k or IRA there is no such limitation. The full distribution is what I chose to do, and the installment option is basically a partial distribution that is automated (monthly). In general, I favor the distribution flexibility of the 401k or IRA.
5. Simplicity:
Finally, an important factor in my decision to roll funds out of my TSP was simplicity. I wanted to have all my funds in one place where I have unlimited investment and distribution options and make it easier for my wife. The last thing I want is for my funds to be scattered across multiple custodians and accounts if something were to happen to me.
My experience with rolling funds from my TSP was relatively seamless. I was able to roll all my pre-tax TSP funds into my workplace 401k and the tax-exempt funds discussed earlier rolled into my workplace Roth 401k.
These funds could have been rolled into traditional and Roth IRAs but having funds in a traditional IRA creates tax complexity (and probably a tax bill) when executing back-door Roth conversions. Be sure to consult your financial and/or tax advisor about these tax implications.
Warning: Be sure your chosen custodian will accept the tax-exempt funds before starting the process! I cannot emphasize this enough. Not all custodians will. I used Schwab, so I know they will allow the rollover of the tax-exempt portion of your TSP. The mechanics of doing the TSP rollover are beyond the scope of this article and it can be a little confusing but feel free to reach out to us and we can help walk you through it.
Hopefully, you found this article interesting and helpful. If you have any questions, contact our airline planning team at 865-240-2292 or email me at [email protected].
Jason Reagan, CFP®, RICP® | Financial Planner
Leading Edge Financial Planning
865-240-2292 Office
865-268-8832 Cell/Text
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