Did you know that Americans who save for retirement have more money in IRAs than in employer-sponsored retirement plans such as the Thrift Savings Plan (TSP)? According to the Employee Benefit Research Institute, IRA contributions’ primary source comes from individuals who transfer money from the TSP. or equivalent 401(k) or 403(b) plans when they leave a job.
Moving your money from the Thrift Savings Plan (TSP) to an IRA is called a rollover. You might have seen ads or heard messages encouraging you to do this. But before you decide, think about your options. One option is to stay in the TSP or transfer money from another retirement account into your TSP.
1. Evaluate Your Transfer Options
There are four choices for what you can do with your money in your TSP account. You can keep the money in the account, transfer it to a new employer’s plan if allowed, roll it over into an IRA, or cash it out. Each choice has pros and cons, but cashing out your account is usually not a good idea for younger people.
Under 5912, the IRS typically considers your payoff an early distribution. It means you could owe a 10% early withdrawal penalty in addition to federal, state, and municipal taxes.
2. Reduce Taxes by Rolling Roth to Roth and Traditional to Conventional Accounts.
If you want to roll over your TSP assets to an IRA, you can choose between a traditional IRA and a Roth IRA. No taxes will be owed if you transfer assets from a regular TSP account to a conventional IRA or contributions and earnings from a Roth TSP account to a Roth IRA. But if you switch from a traditional plan to a Roth IRA, you will have to pay taxes on the amount of money you convert. It is essential to consult with your plan administrator and financial and tax professionals about the tax implications of each option before making your decision.
3. Think Twice Before Doing an Indirect Rollover.
The TSP will send your money directly to your new employer’s plan or an IRA with a direct rollover. With an indirect rollover, you will first request a distribution of your money from the TSP. You will then have to complete the transfer yourself. However, there are significant tax consequences with indirect rollovers. If the transfer is not met, the plan must withhold 20% of the amount you receive to ensure that taxes are paid.
To avoid taxes and potential penalties, you must deposit the funds in an IRA within 60 days. If you don’t, you will have to pay taxes on the money and may also have to pay the penalty. To avoid this, add money from another source so that the total deposited equals 20% of the amount you cashed out.
4. Be Careful of Claims of “Free” or “No Fee.”
The competition among financial firms to get your IRA business is strong. You will find a lot of advertising about rollovers and IRA-related services. Some of this advertising can be misleading. FINRA has noticed advertisements that employ overly broad language and indicate that investors with accounts with the firms pay no fees. Even if no charges are linked with the rollover, there will be costs associated with account administration, investment management, or both. Do not roll over your retirement assets based only on the term “free.”
5. Realize That Conflicts of Interest Exist
Some financial professionals might make money if you move your money from the TSP into an IRA. It is because they might get commissions or other fees for this. However, suppose you leave your assets in the TSP or roll them over into a plan sponsored by your new employer. In that case, these professionals likely won’t get any money. So even if the recommendation is good, the professional could benefit financially.
6. Compare Investment Options and Other Services
An IRA offers more investment options than an employer plan, but the TSP might have lower-cost options. You will need to decide if the IRA options are good for you. It will depend, in part, on how happy you are with the possibilities offered by the TSP.
Some employment plans also offer access to investment advice, planning tools, phone support lines, educational materials, and workshops. Similarly, IRA providers give varying service levels, including full brokerage, financial advice, and distribution planning. Consider what you want from the account and what you are ready to give up if you consider a self-directed IRA account.
7. Understand Fees and Expenses
The TSP and IRAs have investment-related expenses and plan fees. Investment-related expenses can be the costs of sales loads, commissions, the expenses of any mutual funds in which assets are invested, and investment advisory fees. Administrative expenditures (such as recordkeeping and compliance fees) and service fees may be included in plan fees, like access to a customer service representative. Sometimes employers pay for some or all of the plan’s administrative expenses.
IRA account fees can include different fees, such as administrative, account set-up, and custodial fees. Knowing how much you are currently paying for TSP to manage your retirement funds is essential before deciding on rolling over your funds. TSP’s expenses are some of the lowest in the business. Compare those to the fees and expenses of a new plan or IRA.
To find out about IRA fees, ask your financial professional to provide information about fees and expenses. You should also read your account agreement and any investment prospectuses. FINRA’s micro-course on the subject can help you understand why fees and expenses matter and how to manage their impact on investments.
8. Engage in a Thoughtful Conversation With Your Financial or Tax Advisor.
It would be beneficial if you were not hesitant to ask your financial professional about critical topics. Such as tax consequences, service disparities, and fees associated with different retirement savings options. If your financial professional recommends selling securities in your plan or purchasing securities in a newly opened IRA, ask what makes the recommendation suitable. Remember, just like any other investment, if you don’t understand it, don’t buy it.
9. Age Matters
If you leave your job between the ages of 55 and 59½, you may be able to take penalty-free withdrawals from the TSP. In contrast, penalty-free withdrawals from an IRA are usually not permitted until age 59. If you reach the age of 72, the rules for traditional employment plans and traditional IRAs compel you to withdraw specific minimum sums regularly, known as the required minimum distribution (RMD).
The RMD rules also apply to Roth 401(k) accounts. But the rule is different for Roth IRAs. The owner of a Roth IRA doesn’t have to take out money if they are still alive. If you continue working at age 72 and don’t have a Roth IRA, you don’t have to take money from your job’s retirement plan. It may be good for people who plan to work into their 70s.
10. Be Aware That One Choice Is to Transfer Funds Into the TSP Instead of Out
Some people might try to convince you to move your money out of a plan like the TSP. But you also have the option of moving your money into the TSP. It can be accomplished by transferring or rolling over your tax-deferred funds from traditional IRAs. SIMPLE IRAs and certain employer plans into your traditional TSP account.
Transferring money from an employer-sponsored retirement plan to the TSP is called a “direct rollover.” When you get a distribution from your employer-sponsored retirement plan and put the money into your retirement account, that is called an “indirect rollover.” The TSP will accept transfers from Roth 401(k)s, Roth 403(b)s, and Roth 457(b)s into your TSP account. But you can’t move money from a Roth IRA into your TSP account. If you don’t have a Roth balance in your current TSP account, the transfer will create one.
Americans’ biggest concern is saving for retirement. People are often confused about their retirement savings options. They might not know what to do when they switch jobs or retire. It is important to take the time to assess your options and ask questions. It will help you decide what is best for you.
TSP and IRA Rollover Errors Federal Employees and Retirees Should Avoid
Many people with a Thrift Savings Plan (TSP) and federal employees or annuitants with traditional IRAs and Roth IRAs choose to roll over their accounts. While rollover can be a stressful experience, mistakes during the process can be costly and annoying. However, avoiding ten of the most common IRA and TSP rollover mistakes can help you avoid these errors.
Two bad things can happen if you withdraw money to do a rollover and are not eligible. First, the money you withdraw will be considered taxable income, meaning you have to pay the IRS a 10 percent penalty if you’re under 59.5 years old.
Second, if you roll the funds into another retirement account, the government may consider it an “excess” contribution. It could lead to a 6% penalty on the excess contribution amount. In addition, you may have to pay regular federal and state income taxes on the money.
The following is a list of the ten most major rollover mistakes made with TSPs and IRAs that federal employees and annuitants need to be aware of to avoid making them:
1. Violations of the once-per-year IRA rollover rule
If you take money from your IRA, you don’t have to pay taxes on it as long as you put the money back into another IRA or a retirement plan like the TSP within 60 days. But if you do more than one rollover in 12 months, the amounts rolled over in the second or more rollovers during the 12 months must be included in the income.
The IRA owner may also have to pay a 10 percent early withdrawal penalty if they are younger than 59.5. Note that 12 months means any 12 months (365 days) and not necessarily the calendar year. Direct (“trustee-to-trustee”) transfers don’t limit the number of direct transfers done in any 12 months.
The once-per-year rollover rule applies only to IRA rollovers from one IRA account to another. It includes rollovers of traditional IRAs to traditional IRAs and Roth IRAs to Roth IRAs. However, according to the new TSP withdrawal rules, it is essential to keep this in mind. A TSP participant who has retired from federal service can perform a maximum of twelve rollovers from their TSP to their IRAs within a calendar year. These new rules came into effect on September 15, 2019. On September 15, 2019, these new regulations became practical and applicable.
2. Missing the 60-day rollover deadline
If you do not roll over the money within 60 days, you will be required to pay taxes. The funds will be distributed from your IRA or qualified retirement plan. It means you will have to pay taxes on the money even if it is distributed in the next calendar year. You have to pay a 10% penalty if you are under 59.5 when you withdraw the money.
3. Losing track of one’s former employer-sponsored qualified retirement plan and failure to rollover the money to the TSP or a self-directed IRA
Federal employees are busy people who sometimes forget their old 401(k), 403(b), or SEP-IRA retirement plans from previous employers. Employees might move without updating their address with the former retirement plan administrator when a company is sold. That’s why it is recommended that all employees take inventory of their retirement accounts and IRAs and consider consolidating them into one account.
Some people may not know that they can transfer their retirement savings from other accounts into their TSP accounts. It is done by filling out Form TSP 60. No frequency limit will affect the annual contribution limit made to the TSP account.
4. Rolling over required minimum distributions (RMDs)
There are two necessary things to remember about owning a traditional IRA for people born before July 1, 1949 (who are now over age 70.5).
Even if you are still employed, you are required to withdraw funds from your traditional IRA each year. It is called a required minimum distribution, or RMD. The Secure Act passed in December 2019 changed the age at which people must start taking their RMDs from 70 to 72.
Second, suppose the IRA owner has retired from federal service. In that case, they must take RMDs from the TSP and any other qualified retirement plan (like a 401(k) plan). You must take out some money from these plans every year.
But there is a fundamental rule for TSP participants. Other qualified retirement plans and traditional IRA owners must remember: that you can never roll over your RMD. The exception was during 2020. Due to the COVID-19 pandemic and the CARES Act passage, RMDs were permitted to be rolled back to their qualified retirement accounts or traditional IRAs; however, this was only for 2020.
Suppose you are over 70.5 years old and convert your traditional IRA to a Roth IRA. In that case, you must include the year’s traditional IRA RMD in the conversion. However, once you take the annual RMD from the traditional IRA, any remaining balance can be converted to a Roth IRA without penalty.
5. Rolling over after-taxed traditional IRA assets into the traditional TSP or rolling over Roth IRA assets into the Roth TSP
It would help if you never rolled over after-taxed traditional IRA assets into the traditional TSP. Only pre-taxed traditional IRA assets should be transferred into the traditional TSP. Pre-taxed traditional IRA assets consist of deductible IRA contributions and accrued earnings.
After-taxed traditional IRA assets are contributions you did not deduct from your taxes. The government considers these contributions the “cost basis” of your traditional IRA. You will need to use IRS Form 8606 (Nondeductible IRAs) to report any nondeductible contributions you made to the traditional IRA during any year. Roth IRA assets cannot be rolled over into the Roth TSP.
6. Rolling over traditional TSP hardship withdrawals to a traditional IRA
If you have a TSP account, you can take a hardship withdrawal if approved. Keep in mind the following when taking a hardship withdrawal:
(1) A TSP hardship withdrawal must be applied for and approved by the TSP Service Office and only for a limited number of reasons;
(2) TSP hardship withdrawals are not loans and are, therefore, not paid back. A participant who is younger than age 59.5 who is approved for a hardship withdrawal will pay federal and state income tax on the amount withdrawn and a 10 percent IRS early withdrawal penalty; and
(3) TSP hardship withdrawals cannot be rolled over to a traditional IRA.
7. Deemed distributions from a defaulted TSP loan not paid off or rolled over to a traditional IRA within 90 days
If you do not repay a TSP loan, the TSP will report the outstanding loan to you on Form 1099-R. It will be considered taxable income, and there may be a 10 percent early withdrawal penalty if you are under 59.5 years old.
If you retire from federal service with an outstanding TSP loan, you have 90 days to pay off the loan. If you don’t pay off the loan within 90 days, the unpaid balance will be rolled into a traditional IRA.
8. Rolling over traditional IRA 72(t) distributions into a traditional IRA
72(t) distributions are a series of early withdrawals from a traditional IRA that avoid the IRS’ pre-age 59.5 10 percent early withdrawal penalty.
To take the penalty exception, you must make a series of withdrawals that are the same amount each time. You have to do this for a long time. The IRS sets out how long you have to do this in Internal Revenue Code Section 72(t)(2)(A). You can start taking these payments from your traditional IRA at any age, even if you are still working.
9. The Same type of investment asset must be rolled back into an IRA that was rolled out of another IRA
If someone takes cash out of an IRA to do a rollover, they can only put some money back in. If someone rolls over stock from an IRA, they can only put that stock back in. For a traditional IRA to Roth IRA 60-day rollover, the same type of property (for example, cash, stock, bonds) must be used when you withdraw and receive it.
10. Withdrawing IRA funds in case of a divorce settlement rather than directly transferring the funds to the soon-to-be ex-spouse’s IRA
The money will be taxable if you want to use traditional IRA funds as part of a divorce settlement. You can’t just roll the money into your soon–to-be ex-spouse’s traditional IRA. If you take the cash out, you and your spouse must pay federal and state income taxes. If you’re younger than 59.5, you’ll also have to pay a 10 percent penalty.
Frequently Asked Questions About TSP Rollover
Can I Roll Over TSP to Roth IRA?
If you don’t roll over your traditional TSP funds within 60 days, the government will tax them. They will also charge a 10% early withdrawal penalty if you are younger than 59½.
Do I Have to Rollover My TSP?
You do not have to roll over all of your investments in the TSP. You might roll over some assets for a specific reason while leaving the rest with the TSP. However, it is important to get advice from a knowledgeable advisor who has no financial interest in your decision before making a final decision.
What Is a Good TSP Balance at Retirement?
Suppose you want your TSP balance to be able to provide you with an annual income of $ 10,000 that keeps up with inflation. In that case, most financial planners will suggest that you have a $ 250,000 balance by the time you retire.
What Form Do I Need to Rollover My TSP to an IRA?
You would use a form TSP-75 to take money out of your account based on age. Have your financial adviser fill out the form part that talks about transferring money. Once separated, you can take multiple withdrawals as long as each withdrawal is at least $1,000.