The Thrift Savings Plan (TSP)
The Thrift Savings Plan is a defined contribution plan similar to 401(k) plans for private companies. Americans who are current or former employees of the federal government—civil service employees and retirees as well as for members of the uniformed services—have more than $550 billion saved for retirement in the Thrift Savings Plan, making TSP one of the nation’s largest retirement plans.
Things have changed for federal employees during the last few years when it comes to their benefits and access to their TSP account funds. On November 17, 2017, the TSP Modernization Act became law, and some of its provisions went into effect on September 15, 2019, while additional provisions are set to take effect on October 1, 2020.
Here is a brief overview of some of the changes which may allow you as a financial professional to better serve those who serve us.
On October 1st, Automatic Enrollment Changes from 3% to 5% of Pay
Starting October 1st, The Federal Retirement Thrift Investment Board (FRTIB) will set automatic contribution rates at 5% for new or rehired federal employees, meaning those participants will automatically begin to contribute 5% of their basic pay toward their TSP unless they elect otherwise.
Participants in the blended (military and civil service) retirement services program who are automatically re-enrolled in the TSP on or after Jan. 1, 2021 will also see higher contribution rates at that time.
NOTE: The new changes won’t impact existing automatically-enrolled TSP participants, and all TSP participants can change their contribution rates or opt out at any time.
The goal of changing the automatic enrollment rate is to help its participants better prepare and save for retirement. Participants must contribute 5% of their basic pay in order to receive their agency’s full matching contribution. About 26% of participants were contributing less than 5% toward their TSP at the end of 2018, according to the FRTIB.
The FRTIB wrote, “Increasing the rate to 5% not only increases the amount that a participant saves from his or her basic pay but also ensures that that participant receives the full amount of agency/service matching contributions he or she is entitled to, both of which allow the participant, everything else being equal, to achieve significantly greater retirement savings.”
NOTE: Matching contributions are always added to a participant’s traditional tax-deferred balance, not a Roth TSP account if they have elected one.
Changes to Withdrawal Options Went into Effect on September 15, 2019
On September 15, 2019, participants in the Thrift Savings Plan had a host of new withdrawal options added per The TSP Modernization Act. The old rules were considered by some to be restrictive and complex, which led to negative consequences in some cases.
In fact, according to wealth managers who specialize in federal benefits the old rules were so complicated that TSP participants may not entirely understand what is different now, or how the changes have affected them. Here are brief summaries of some of the changes.
- For TSP participants who have retired or separated from federal service, there is no longer the need to make a big one-time decision about their TSP funds at the age where RMDs must begin.
Participants will no longer have to make a final choice about their TSP balances.
Prior to the new law, once a retiree reached the chronological age where they had to start withdrawing money due to IRS-mandated required minimum distributions (RMDs) from tax-deferred accounts, they had to lock in a choice for their entire future retirement, such as choosing a fixed monthly payment or a variable payment based on life expectancy.
NOTE: This age used to be 70-1/2, but is now age 72 due to the recent passage of the Setting Every Community Up for Retirement Enhancement (SECURE) Act.
In the past, this caused many account holders to withdraw all funds or roll all of their money out of TSP just to give themselves more flexibility. The new legislation encourages those who have left federal service—whether they’ve resigned or retired—the ability to manage their TSP in retirement by leaving it there rather than having to move it to an IRA (individual retirement account) or some other place to have the flexibility to withdraw funds when they want to.
Leaving money in the TSP may or may not be advantageous depending on an individual’s circumstances. When it comes to the TSP, the list of investment options is usually shorter than for most 401(k) plans. But the lower expense ratios or fees may be attractive; in 2018, the average expense ratio for TSP funds was just .04%.
NOTE: Another thing that financial advisors to TSP participants should know in terms of tax planning is that, while there are tax-advantaged Roth options available in the TSP, Roth TSPs are subject to required minimum distributions, while individually-owned Roth IRAs are not.
- Now retirees will be able to wait to make a decision, or change their withdrawal election as they go along, as long as they at least withdraw their annual RMD amount.
Effective September 15, 2019, participants now receive notices and reminders throughout the year from the TSP reminding them if they haven’t made a full withdrawal election for the tax year. The legislation allows the TSP to effectively automate RMDs for participants, which TSP calculates for them per Internal Revenue Code.
Any withdrawals a retiree does take are first counted toward their RMD requirements, and for any remaining RMD amounts not withdrawn, TSP issues a check to the account holder before the IRS deadline, which is helpful in avoiding steep tax penalties.
NOTE: The TSP has a “still working” exception that shields participants who are past the age of having to take RMDs from taking them if they are still employed at their federal job.
- Separated TSP participants can elect to take distributions annually, quarterly, or every 30 days.
Before the changes went into effect, participants could only take one partial withdrawal in their lifetime, and if they wanted to take installment distributions from their TSP, they had to be monthly for a fixed amount. Now, taking one withdrawal will no longer preclude them from taking another withdrawal later, and they can change the amounts they want to withdraw at any time. Once they’ve separated from the federal service, they can take as many withdrawals as they’d like, up to once every thirty days.
- Participants are now able to stop, start, or make changes to their installment withdrawal amounts at any time, not just in October.
Previously, retired TSP participants could only make changes to the amount they were withdrawing during the “open season” in October. Now, they can modify their installment payments at any point throughout the year.
- Quarterly in-service withdrawals can be made starting at 59-1/2.
Participants who are still working in federal service but have reached age 59-1/2 or older will now be able to take up to four partial withdrawals from the TSP during any given calendar year as long as they are at least 30 days apart. Previously, they could take only one.
This may allow federal employees to cut back on hours, or to roll tax-deferred money into their own tax-free Roth IRA accounts depending on what’s best for them given their individual situation. Any tax-deferred money withdrawn is subject to ordinary income tax on the amount withdrawn in the year that it’s withdrawn or rolled over into a tax-free account like a Roth IRA.
- Proportional distributions from Roth and traditional TSP accounts are no longer required.
Before this change went into effect, if a TSP participant wanted to make a withdrawal, they had to take a “pro rata” distribution — if 75% of their TSP balance was traditional and 25% was Roth, when they withdrew, that withdrawal would be 75% traditional and 25% Roth.
Under the new withdrawal options, participants can choose what balance—their traditional or Roth—to withdraw money from. This may add new flexibility in tax planning for the retiree, since Roth money is generally not subject to income tax.
NOTE: While they will be able to choose whether their withdrawal should come from their Roth or traditional balance or a certain amount from both, they cannot specify which exact fund, like the C, G, F, S, I or lifecycle funds, to withdraw from.
If a participant doesn’t specify which type of account to withdraw money from, the TSP will still take proportional distributions from their Roth and traditional accounts.
- Outstanding loan balances after retiring or leaving government service now come with two choices.
Participants with an outstanding TSP loan can either keep the unpaid balance and have it declared as a taxable distribution for the year, or they can choose to pay the loan off before taking a withdrawal. In some cases, they may be able to roll over the taxable amount of the distribution into an IRA or eligible employer plan within 60 days to avoid taxes and penalties.
- If participants take a hardship withdrawal, they are no longer prohibited from contributing to TSP for six months.
Under the old rules, TSP participants who took a hardship withdrawal were temporarily suspended from making further contributions for the next six months. But under the new options, that six-month contribution suspension is gone.
If you would like to learn more, call us at 800.440.1088.
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The information in this article is provided for general information and educational purposes only, and is accurate to the best of our knowledge. Do not rely on this information for advice.
Pete is passionate about providing financial professionals with the expertise that helps their businesses grow and thrive in all conditions. Prior to working at Quantum, Pete worked in banking and managed a portfolio of commercial clients. He has an MBA from University of Colorado with undergraduate degrees in political science and international business.