“If I start contributing to Roth tsp this year. I am 56 that would mean I cannot take any contributions from the Roth’s for 5 years at the age of 62? Thanks” – Stephanie
Retirement Benefits for Federal Employees: The Three-Legged Stool
As a FERS employee, your retirement system is what we describe as a three-legged stool. It consists of benefits from three different sources: a Basic Benefit Plan – Your Pension, Social Security, and the Thrift Savings Plan (TSP).
Your pension is a combination of your contributions and those made by your agency. Your agency withholds the cost of the Basic Benefit from your pay each pay period. When you retire, your pension benefit is based on a set of rules that include your credible years of service, as well as your high-three computations.
Similarly, each pay period you pay into Social Security by payroll deduction. Your agency pays its part to social security as well as the employer. You first become eligible to draw social security at age 62 and can delay drawing until age 70.
The third and final leg in your FERS Retirement benefits is your Thrift Savings Plan (TSP). As an employee, an account is automatically set up by your agency. Each pay period your agency deposits into your account amount equal to 1% of the basic pay you earn for the pay period as their contribution. However, the percentage of YOUR contribution from your payroll is voluntary.
You can have withheld from your pay up to the annual contribution limit as defined by the Internal Revenue Code each year. Your voluntary payroll deductions can be categorized into either:
The pre-tax account is often referred to as the “Traditional” and the post-tax as the “ROTH” component.
The Thrift Savings Plan (TSP) is an employee-sponsored retirement plan so there are some rules associated with how your contributions and withdrawals work.
Those rules can have considerable penalties and / or income tax qualifications upon withdrawal so you will want to understand how they work before making any decisions.
Will you get a penalty when you take money out of your Roth TSP?
The Thrift Savings Plan (TSP) is a qualified retirement plan and there are rules regarding your eligibility to withdraw funds from the account(s).
Your Thrift Savings Plan (TSP) is a qualified retirement plan. That means the structure of the plan meets the requirements of the Internal Revenue Code Section 401. In meeting these requirements, the TSP is eligible to receive certain beneficial tax treatment.
The benefits of this tax treatment help the employer and the employee alike. During your working years, the TSP allows you to make annual contributions as part of an elected salary deferral option.
The contribution made by your agency, regardless of what elections you make, will always be tax-deferred. Many Federal Employees that we visit with during our consultations are not aware of this so it is important to keep in mind as you tax plan in retirement. Your agency cannot change this.
When you go to retire or want to draw money out of your TSP, tax planning will be a critical component of your overall financial plan.
Rules on Making Withdraws from your TSP ROTH
Here are the rules regarding making withdraws from your TSP ROTH,
- Age: you must be age 59 and 1/2 years young,
- 5 Years: your ROTH account must have been open and funded for at least 5 years.
Stephanie, in your case you are age 56 and this will be the first year that you contribute to your TSP-ROTH. You will need to be age 62 before you’re able to withdraw those funds tax-free.
Keep in mind, the money in these accounts as long as you’re vested and eligible, is always yours. The BENEFITS though, like the tax-free withdrawal status have rules though.
One of the greatest aspects of the TSP Modernization Act was how it radically changed the distribution rules for withdrawals.
“Roth, Traditional, or Both
It used to be that when you took a withdrawal, the money came from your traditional and Roth balances on a pro rata basis. For example, if 80% of your account was in your traditional balance and 20% was in Roth, any withdrawal you took was 80% traditional and 20% Roth. Under the current rules, you can still use this method, but you also have the option to take your
withdrawal only from your Roth balance or only from your traditional balance. These options are available for all types of withdrawals.” (tspfs10.pdf)
Prior to the TSP Modernization Act, you had to take your withdrawals from BOTH the tax-deferred and tax-free buckets proportionally.
Now, you are eligible to elect which account, the tax-deferred and tax-free, accounts you want to take your distribution from. This is really a significant piece of legislation that we have been voicturous about as it provides Feds, like Stephanie, tremendous opportunity to be in control of their retirement income tax planning more.
Stephanie, in your case you can potentially look at starting your ROTH now so that the “5-year clock starts ticking” and make your withdrawals, if needed, between now and the next 5 years from your tax-deferred account – allowing that tax-free account to sit until you have reached the eligibility requirements.
Do you have questions about your retirement? I help my Federal Employee clients step-by-step through the entire retirement process. Click below to schedule your personal consultation, but keep in mind that my calendar is usually booked out for 6-8 weeks or more.