We know that TSP can be a great way to save money for retirement whilst also receiving significant tax benefits. However, these benefits come with a number of rules that limit when and/or how you can access these funds. One very well known rule is that for many retirement accounts you will have to pay a 10% penalty if you access them before age 59.5. In this episode, Michael, Tommy and John will be explaining several exceptions surrounding this penalty and how to ensure you use them correctly to avoid costly mistakes.
Listen in as they share distribution options for law enforcement officers (and regular employees), as well as IRA and Roth IRA rollover options. You will learn the required distribution rules and the evolution of the Thrift Savings Plan that helped it get to where it is today.
Listen to the full episode here:
What you will learn:
- Distribution options for both regular employees and law enforcement officers. (1:55)
- What the access is to your TSP once you retire. (3:20)
- What the purchase of an annuity inside a TSP is. (4:45)
- Why 59.5 is a magic age for TSP. (7:40)
- How to move your money once you’re retired. (12:20)
- The value of opening up a Roth IRA sooner rather than later. (15:45)
- The importance of ensuring your financial plan is specific to your needs. (23:20)
- What to be aware of with charitable giving when in retirement. (30:00)
- Whether TSP is a good accumulation vehicle. (38:45)
Ideas worth sharing:
”59.5 is the magic age for Thrift Savings Plan liquidity.” - Mason & Associates, LLC
“Do not transfer 100% of your TSP at retirement.” - Mason & Associates, LLC
“Go open a Roth IRA yesterday.” - Mason & Associates, LLC
Resources from this episode:
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Read the Transcript Below:
Congratulations for taking ownership of your financial plan by tuning into the Federal Employee Financial Planning Podcast, hosted by Mason & Associates, financial advisors with over three decades of experience serving you.
Michael Mason: Welcome to the Federal Employee Financial Planning Podcast, hosted by Michael Mason, certified financial planner; John Mason, certified financial planner, and Tommy Blackburn, certified financial planner, and certified public accountant, CPA.
Mason & Associates have over three decades of experience helping federal employees with their financial plans. This episode, Thrift Savings Plan (TSP) at retirement and 59 and a half. So, at retirement, or I should say 59 and a half.
What are we going to cover?
Distribution options, regular as well as law enforcement officers, IRA and Roth IRA rollover options; the limitations of the Thrift Savings Plan at retirement, required minimum distribution rules, and kind of the evolution of the Thrift Savings Plan that's helped to get to where it is today.
So, let's just jump right into it guys, and let's talk about distribution options, both regular and law enforcement.
John Mason: So, big thing, Mike is at 59 and a half our federal employees, if they're actively working, and that's your first time as a federal employee where you have access to something called an in-service transfer or an in-service rollover. Maybe another way of thinking about it, Mike, is like a partial distribution from Thrift Savings Plan.
So, for a lot of federal employees, you've been there 30 or 40 years, and this Thrift Savings Plan has been completely illiquid. You haven't been able to touch it without taking a distribution for hardship or a loan.
Now, you're 59 and a half, you have access to an in-service withdrawal that allows you to do a variety of things; transfer a balance to an IRA or Roth IRA, as well as if maybe you need a down payment for a house, you could actually take a partial distribution and lumpsum to make a down payment on your house, pay for a child's wedding. So, 59 and a half is a big age.
Michael Mason: And it looks like we're limited to four of these per year when you're an active employee. So, four withdrawals per year and the minimum withdrawal’s a thousand dollars. So, that's age 59 and a half.
You're still working, you're an active employee, you have access to your money, there is no 10% penalty, but there will be taxes based on your tax bracket due if you put that money in your pocket. Of course, if you roll it over to an IRA, then you avoid or defer those taxes to a future date.
Tommy, let's talk about access at retirement.
Tommy Blackburn: So, once we're retired, we're age 55 or older when we retire, we can actually take distributions from the TSP directly, not necessarily in a rollover, if we wanted to take income from it, and there would be no 10% penalty. Of course, there would be potentially taxes due if it's traditional balance.
And if we're those law enforcement officers, if we're in that category, if we retired at 50 or later, we're also avoiding that 10% penalty.
Michael Mason: And some of the ways you can get the money out of there, you can get installment payments where you just set it up to either come monthly, quarterly, or annually. You can do single withdrawals. Remember, now, you're retired, so you can just do arbitrary withdrawals. But TSP will only process one of those every 30 days. So, seemingly, you could do 12 a year but one every 30 days.
And you can also purchase an immediate annuity, not one that we're suggesting in these low interest rate environments, but an immediate annuity says, turn my cash into income and send that to me over the rest of my life. So, those are some of your options.
John Mason: Probably an important distinction, Mike, because some of our listeners on this podcast are probably hearing the word annuity and it's a four-letter word for a lot of folks. So, how does that work? What is the purchase of an annuity inside of Thrift Savings Plan?
Michael Mason: So, an annuity, and we should call it very clearly; a single premium immediate annuity is what it looks like. And you are literally saying, take my cash (let's call it 500,000), look at my age and my life expectancy — and there are annuitization tables and the TSP actually outsources this to a private carrier.
And it says, based on your age, your life expectancy, we are going to send you this income stream for the rest of your life. And you can make some options, you can say send it to me for the rest of my life, but at my death, it's done. Well, that's going to be your highest payout.
You could say send it to me for the rest of my life, but at least for 10 or 20 years, that's going to be a lower one. You could say send it to me for the rest of my life and for the rest of my spouse's life. The more those options that drag it out, of course, the lower the income's going to be.
John Mason: And there, it's just a completely different environment than an annuity that you would be able to purchase through a financial person, whether it be a fixed index annuity or a variable annuity — the annuities inside of Thrift Savings Plan are similar in many ways, but also very different.
So, I would just say if you're thinking the annuity option, we would just say that maybe it's not the best option right now. If you're very confident, Mike, if somebody's like, “I need more guaranteed income above and beyond my federal pension,” perhaps we're not going to say you can do better, but perhaps, there is a better annuity out there in the private sector that you would be able to acquire.
And I would just want to throw this out there, tsp.gov guys is a wonderful resource. I'm on this website right now, and there's a beautiful link that says, “Use your savings.” And there's one for, how do we take loans? How do we do in-service withdrawals? What does life look like in retirement? And then the fourth one here is annuity basic.
So, for our listeners, if you have any questions on the annuity or what those payouts would look like, tsp.gov would provide that to you.
Michael Mason: Very good. Now, we wanted to discuss … and we've made a living helping people do financial planning that are federal employees for over 35 years. And many of our clients are federal employees and they do move their money from the Thrift Savings Plan to IRAs and Roth IRAs.
And we'll talk about the benefits of that later in this podcast. But let's just talk about the rules around rollovers of your TSP to IRA or Roth IRA. John, let's start with the active employees.
John Mason: Mike, active employees, again, 59 and a half is the magic age for a Thrift Savings Plan liquidity. So, just remember, while you are an active federal employee from age 20 to age 58, 59, you do not have any liquidity. But at 59 and a half, is when all of these options become available to you.
Whether it's a distribution that you spend or a distribution that is then rolled over to an IRA or Roth IRA. So, for active employees, the magic age, 59 and a half. As an active federal employee, you can actually transfer 100% of your account value directly to a traditional IRA or Roth IRA.
And there's really no negative in doing that because while you're an active employee, you're going to continue contributing to that Thrift Savings Plan, Mike. You're going to continue receiving the 5% matching contribution. So, we're not at risk of the TSP account being closed.
That is a concern for a lot of folks as they become clients of Mason & Associates: “Well, if we transfer that TSP to you, now, Tommy, what are we going to do? Will we continue to contribute going forward?”
And throughout the financial planning process, we have to educate clients that yes, you will continue contributing to that TSP or 401(k) even after that in-service transfer.
As far as taxability goes, there is a 1099 generated when you do a direct transfer from Thrift Savings Plan to an IRA or Roth IRA. Just important to note guys that traditional balances are typically going to traditional IRAs, Roth balances are typically going to Roth IRAs.
And in the event that you do that, there’s no taxable liability to you, but that doesn't mean it's not a taxable reportable event that'll show up on a 1099 the following year.
Tommy Blackburn: And I think that code you want to be looking for to see on that 1099 is a code G, which just signals to the IRS that it's a non-taxable event, but you absolutely need to report it.
Michael Mason: Yeah. And a very unique portion for our military would be those exempt contributions, those contributions you made in a combat zone. The sooner/truly, the sooner you can get those out of your TSP, the better, because the exempt contributions come back to you tax-free. But all the earnings are tax-deferred.
So, you can actually segregate those exempt contributions and the sooner you do it, you get that those exempt into a Roth IRA and all of it grows tax-free. The way we've seen it happen with the military, you roll in your TSP, let's say you retired at 45 and you're now 49 — and we discover a lot of exempt contributions.
We just want to roll the entire Thrift Savings Plan. Any Roth portion will go to your Roth, any traditional portion will go to your traditional. And if there are exempt contributions, they're going to cut you a check for those exempt contributions. And as long as we reinvest that in your Roth IRA within 60 days, now that's in your Roth and it's growing tax-free for the rest of your life. So, you absolutely want to do that.
John Mason: And Mike, just to your point as well, we have to make a big distinction here. There's a huge difference between exempt contributions which — and for everybody else in the world are like after tax 401(k) contributions, there's a completely different rule.
So, if I'm a federal employee and I have a million-dollar Thrift Savings Plan, and I elect to transfer 900,000, I'm able to pick, do I want that withdrawal to be pro rata or proportionate between my traditional and Roth balance or do I only want it to come from the traditional side or the Roth side?
So, you can actually pick now. You can source those distributions, both for spending or transferring, which is new. You didn't use to be able to do that. With the exempt contributions, it is proportionate. You have to extract almost all of your account value to get the benefit of getting all those exempt contributions out.
And to your point, military has it really tough because they're the ones that are getting those exempt contributions then, but they can't transfer it out until they retire. Most of the time, I'm sure there's maybe a few active-duty military who reach age 59 and a half, but in general, your ability to transfer those exempt contributions for military happens at retirement.
And if you still happen to be active employed at 59 and a half, you would have the same option as well.
Michael Mason: Correct. Tommy, let's talk about retired. There's slight differences, let's talk about retired and moving the money.
Tommy Blackburn: So, once we're retired, we have the ability … we don't have to necessarily be 59 and a half. So, it's almost if we're still working 59 and a half and after is our magic age, but if we retire before 59 and a half or any time after that, we now have liquidity in the TSP.
We have the ability, once we're retired, to transfer 100% of our vested account balance, and we can send that to an IRA and or Roth IRA, depending on what makes up that TSP.
What's important to note here is that in general, we to typically do not transfer 100% of the TSP at retirement. The reason is, is we have a lot of flexibility now under the current TSP rules. And we like to leave that door open for a variety of reasons that I think we're going to touch on later in the podcast.
A reason we may also want to leave the TSP open and leave money there, is if we've retired before 59 and a half, because while there's some flexibilities and things we can do like 72(t)s and certain exceptions to a 10% penalty from an IRA, if it's before 59 and a half — as we said earlier, if we retire 55 or later, or if we're Leo, the law enforcement, 50 or later, those distributions aren't subject to 10%.
So, we just want to be thoughtful and really understand the situation when we retire and what we're doing with the TSP and make sure we use it as the tool that it can be.
Similar to active, when we do rollovers to our IRAs and our Roth IRAs, again, traditional portion from the TSP is going to go to a traditional IRA, a rollover IRA, and our Roth balance is going to go into a Roth IRA.
John Mason: And Mike, I don't remember offhand, but when did Roth TSP become available?
Michael Mason: Yeah, I've looked that up, it’s 2012, I believe.
John Mason: So, in 2012, give or take, don't hold us to that. But somewhere around 2012, Roth TSP came out. And guys, what's so important about that is a lot of federal employees and military started contributing to Roth TSP because it was available.
So, let's pretend we started contributing to Roth TSP, Tommy, we’re 55, 56-years-old, in the twilight of our career. And then at retirement, we transfer that Roth TSP to our Roth IRA, let's talk a little bit about the “gotcha” that would happen in that scenario.
Tommy Blackburn: John, what a great point. Thank you for pointing that out. What you're referring to there, I believe, is the multiple five-year Roth rules. So, we have one set of rules for if it's in a Roth TSP/401(k) and another, if it's in our Roth IRA.
I think we've even written an article on this in our blog. And you can go check that out at masonllc.net if you're kind of interested in getting into the details of that. And where you're going there is Roth TSP, 401(k), awesome. What a great vehicle — we can stick 19,500 or 26,000 if we're over age 50 into it. It's never going to be taxed again, the earnings as well.
However, there's a five-year rule for Roth IRAs that says you have to have had that account for five years (I think it's five tax years). So, you can kind of make it less than five years, but five tax years in a Roth IRA for the earnings to come out tax-free.
So, the basic piece of advice here, because if you say, “Hey, I've been contributing for 5 or 10 years, I've satisfied all this, I'm going to roll it to a Roth IRA, and I'm going to take everything out, including my earnings,” — well, your earnings didn't just satisfy the five-year rule.
So, good piece of advice here; go open a Roth IRA up yesterday. It could be as little as a dollar. I don't know that any custodian is realistically going to let you do that, but just get that window, get that clock started because once you've satisfied it, you've satisfied it for life.
Michael Mason: So, just a summation before we leave the rollover options: pre-retirement age, 59 and a half. If we're going to roll some money, we have no concerns rolling 100% of TSP to an IRA because we know you're going to recreate a TSP balance.
At retirement, especially if you're not yet 59 and a half, we like to leave money back in TSP for emergencies. But another unique aspect that many folks aren't aware of, let's say we left 50,000, John, for you, and you retired at 57 and that was your emergency fund, and we rolled 950,000 somewhere else and all of a sudden, your emergency was bigger than 50,000 — you can roll money back into TSP using a TSP-60 from the IRA.
And beautifully so, now, that money's available without jumping through hoops to get it out without a 10% early withdrawal penalty. So, we've handled the IRAs and the rollovers. Go ahead, Tommy.
Tommy Blackburn: If I may, Mike, that's such a great point that you made there, and we could actually even take money that wasn't in the TSP before and roll it into the TSP and still get that treatment because the IRS, they don't look at where that money was before. So, as long as we satisfied, we retired (I think in your example, it was after 55, so we had that 10% waiver), it's not like we have to trace the TSP funds.
If we had another 401(k) out there that we rolled into an IRA, we could potentially move those funds in there for that emergency situation.
Michael Mason: Now, one of our goals, we're going to go through the evolution of Thrift Savings Plan and the things we're talking about. And one of our goals today is at least until age 72, leave a balance in that Thrift Savings Plan when we roll money.
Now, we've been doing this for 35 years. Our clients from 20 years ago, maybe listening, they're like, “Well, you didn't leave a balance in mine.” Well, remember, up until September of 2019, you had one free withdrawal from your Thrift Savings Plan. The next time you went to take money out, you had to take it all or annuitize or set in place systematic payments.
So, there wasn't this option of just pecking at it over the rest of your retirement. So, early on, the withdrawals were very restrictive. Now, they're fairly easy. I mean, you still have to … in retirement, you can only get one every 30 days. And if you're doing it without a systematic, every time you go to give one, you need to get notarized; your signature notarized and your spouse’s signature notarized.
And then let's talk about the origination of the L Funds way back in August of 2005, and what's happened to those over the last 16 years.
John Mason: So, Mike, the L Funds or the Lifecycle Portfolios, essentially inside TSP, those are target date retirement funds. Similar, guys, to something you would see at Vanguard or maybe if your private sector in a 401(k) like the 2045 or the 2025.
So, the Lifecycle Funds are really lifecycle portfolios. Target date, a mixture of the existing funds that you have inside TSP. So, there's five funds: C, S, I, G, and F. Your lifecycle portfolios are going to be a mixture of those.
So, for example, if you are a brand-new federal employee retiring in 2060, you would likely be in the 2060, 2065 portfolio, which is going to be the most aggressive. Traditionally speaking, the closer you are to retirement, the lower number you would have on your target date retirement fund. So, it would be like a 2025 or 2030. That's going to have more bond components of there, have a little more stability tilt to that portfolio.
So, these Lifecycle Funds have changed quite a bit, guys. So, before they were 10-year brackets. So, L income, L 2030, L 2040, 2050, and so forth. And then every quarter, those arbitrarily got more conservative to stay on target with that retirement date, whether you wanted to or not.
In a good market, they were getting more conservative; in a bad market, they were getting more conservative. So, we knew what we had with TSP, was happening that way. But the criticism of these funds was that what if I'm retiring in the five-year bracket or in a seven-year timeframe, how do I make these funds work for me?
And Mason & Associates, what we would do, as you could put half of your money in the 2030 and half of your money in the 2040, and you've created your own 2035 portfolio, the Thrift Savings Plan must have thought that was a little too in depth or too cumbersome.
So, they spent some money and some time, and they've now launched the five-year bracketed portfolio. So, now, we have five-year increments rather than the 10. But another big change that maybe was kind of swept under the rug a bit — and if you're in a lifecycle portfolio, you may want to take a look at this.
They were getting more conservative every quarter. I believe, guys, that there was a pretty big change where the TSP Board came out and they said, well, we're going to stop getting more conservative for a little while. And then a few years down the line, they're going to start pairing back stock exposure again.
So, you may be in a more risky portfolio today than you would've been a year ago because you were on track to get more conservative and now, you're not. So, if you're in a life cycle portfolio, I think it's good, Mike. I think it at least gives you broad diversification, but I don't think any of us are a fan of like arbitrarily getting more conservative or letting the TSP Board decide how we should be invested.
So, I think we can look at that from like a market cap perspective and say, this is a decent allocation, but picking your individual funds is probably a better way to go.
Michael Mason: Yeah, well, our concern with the Lifecycle Funds from the beginning is a lot of money was spent doing research and your lifecycle portfolios, 2030, 2040 looks a whole lot like a Vanguard 2030 or 2040 portfolio.
And we said from the beginning, John, folks that are in the Thrift Savings Plan have something that the other folks don't have. They have a pension and that should have been factored into how aggressive or how conservative folks would invest.
John Mason: And don't you think too, Mike, that just because I'm retiring in 2020 or 2030, doesn't mean at 57-years-old that I should have 70% of my portfolio in bonds?
Michael Mason: Right, right.
Tommy Blackburn: Well, and it's the same thing of everybody's financial plan should be different, right? So, you've designed this for the masses, which we're not even sure that you designed it for the masses of TSP participants, but let alone your financial plan and your investment strategy should be customized for you, not for everybody else.
Michael Mason: Some of the other evolution of TSP — Roth TSP was effective in 2012, five years after we asked our local Congresswoman to create it. And it took five years to create the Roth Thrift Savings Plan, and that's 11 years after we had boots on the ground in Afghanistan, 11 years after. And private sector had Roth 401(k)s a whole lot sooner than you had a Roth TSP.
So, TSP doesn't work real fast. TSP is also approved, but not implemented a brokerage window to allow more diversified where you could go in and actually, if it were approved by any mutual fund or any stock you want to purchase — and I'm kind of glad it hasn't been approved, because I think people would hurt there.
But there's one exception to this rule and it looks like sometime in the near future, you're going to have socially responsible funds that you'll be able to invest in. And that's just the nature of the beast that we're in, in America today. You're going to get some of those socially responsible funds.
You know, I want to go through the next segment of this, will be limitations on Thrift Savings Plan and why those limitations encourage our clients to move money out of TSP when they can.
So, one of the biggest limitations is with our military retirees, you can't take those exempt contributions, those contributions you made during the combat zone, you can't take those inside your TSP and move it to the Roth side. So, the longer you allow 50 to 100,000 of exempt contributions in that TSP earning tax-deferred growth versus tax-free growth, that's a big limitation.
So, we want to get those moved over as quickly as possible. Can't do Roth conversions. You can't say convert 25,000 of my traditional into the Roth TSP. The only way you're going to be able to do those contributions or those conversions, is inside an IRA.
Tommy Blackburn: Other parts that we've hit on in our radio show, is that just a service component of it. So, let's say we've got to dial up 1-800 TSP or 1-800 our 401(k), we've got to go through the phone tree and then we're probably going to have to get documents notarized. It's just not going to be convenient.
Then if we want to have tax withholding, I don't even think we can do state tax withholding on a TSP. And John, I think there's some more convoluted rules around if we want to have federal tax withholding, then if we even want some planning done on that, that's certainly not going to happen.
John Mason: Yeah, the federal … well, one, and like you can't have state taxes withheld on TSP, like you mentioned. And then from the federal perspective, if you're taking monthly distributions, Tommy, and those distributions mathematically are going to last less than 10 years, then TSP arbitrarily applies a 20% flat tax on any TSP distribution.
As a TSP participant, you may elect to increase that, but you can never decrease it below that 20% threshold. If your TSP distributions are going to last longer than 10 years, the 20% doesn't apply. And it reverts back to more of like a W-4 where you would elect single and zero, married in two.
It just makes the tax planning so much more difficult when you can't pinpoint on this a thousand-dollar a month withdrawal, I want $250 withheld for federal, and a $100 withheld for state. TSP is just very onerous, you have to make up the difference somewhere else. What do I mean by that, Mike?
It's like, well, I don't have any state taxes withheld here on TSP, so now, I have to log in to servicesonline.opm.gov, boost that, but they're arbitrarily withholding too much on federal. So, then I have to go back to my pension and reduce it there. And then heaven forbid, your needs change or you need a one-time withdrawal, then the calculation starts all over again. It's just way too cumbersome.
Michael Mason: Or you could be that couple that's retired, has been retired and they end up at their parents' house for over three months. You know, as their aged parents are trying to move, trying to move into an assisted live facility and now, you need a withdrawal — for whatever reason, you need a withdrawal from TSP, you got to download the form, you've got to go get your signature notarized, your spouse signature notarized.
If it's in an IRA, you pick up the phone, you call your financial planner and say, “Hey, I need 20 grand, send it to my bank account.”
Tommy Blackburn: Right. And hopefully, they know you, they put you through those security checks and they've already got everything set up. And hopefully, your qualified planner is also even doing some planning there to figure out that tax withholding, what bucket we want to pull from. So, just more service and definitely more convenient.
Michael Mason: Once you get to age 70 and a half, even before you're at RMD status, which is now 72 and may increase above that, but you can still do your charitable contributions at 70 and a half, directly from an IRA.
So, all that money you put into your IRA on a pre-tax basis and all the money it earned on a pre-tax basis, if you're charitable by nature you can send that to your or charity and they won't pay taxes on it, neither will you. That's called qualified charitable distributions and you can't do that from a Thrift Savings Plan. You've got to do that from IRAs.
John Mason: Mike, as we think about how or where/where and how: so, where most people's wealth is located these days and then how most people should be doing their charitable giving, the majority of wealth in this country is in IRAs. I don't know the exact number, but it's in the trillions of dollars. That's where the majority of our wealth is.
The minority of the people in this country are itemizing their deductions on their tax returns. So, most people are taking the standard deduction. So, we have this massive amount of wealth inside of IRAs. We have at least in our client base, a lot of people doing charitable giving.
It is absolutely the best place to do charitable giving directly from your IRAs. We just wish that there was a little more communication out there about this is where all of America's wealth is, this is where everybody, 70 and a half or older should probably be doing their charitable giving from.
Charities would probably be having an influx of contributions if there was just more education on this matter.
Michael Mason: Yeah, we're not looking just to the government to do it. You know, why aren't the churches telling you, why aren't there some ads, Wounded Warriors or Tunnel to Towers? Why aren't they doing some commercials on how you can use your IRA?
I think we just hit on something pretty good there. How can you use your IRA to give more or make your giving less onerous on you? Give the same amount for less or give more versus the after-tax portion that you did.
Tommy Blackburn: One of the best tax planning techniques for the charitably-inclined that there is, we couldn't shout it from the rooftop any louder than we are. And it's funny, our charitable clients ask us, “Will you come speak to my church or come speak to my charitable organization for those very reasons?”
One thing to note on that QCD, not to get too far into the IRA QCD weeds, is you're still going to get that 1099 reporting in as a distribution. It's going to say the taxable amount hasn't been determined. So, you just have to know to make sure you tell your tax preparer, you tell your tax return software that was a qualified charitable distribution, so you don't get taxed on what was a tax-free distribution.
John Mason: And remember, the reason that we're saying this is a limitation guys, is you cannot do a qualified charitable distribution from Thrift Savings Plan, which means if we should be giving from this method QCD, and we don't have IRA, it means that potentially, we're paying taxes, 22, 24% federal — whatever your state income tax is, we're paying too much tax. So, that's an issue.
In addition to that, maybe we are creating more social security that's taxed that if we had done a QCD, social security maybe wouldn't have been taxed to the maximum amount. Maybe you just had enough income that taking that required minimum distribution pushed you over the Medicare threshold, so now you and your spouse are both penalized at like $60 a month each — you're just stuck. You lose so many planning opportunities by not having this money out in an IRA.
Michael Mason: Yeah, many times, and people maybe have gotten used to the tax brackets you move through. Many times in the past, if you went from the 15% tax bracket to the 25% bracket, a lot of folks thought, “Boy, I got 25 on every dollar.”
Well, they've realized that it's only the amount over that bracket, but some of those things you were just talking about, you make $1 too much, $1 too much, and it's going to cost you $1,200. That's a 1200% tax on your Medicare premium. So, it can have a huge effect if we can take that $1 or a thousand off the tax return.
John Mason: I think the last thing we can say on this, is that even if one of our listeners is like, “Well, I am itemizing, so I don't need to do qualified charitable distributions.” That maybe is not the case because you still did damage to page one of your 1040. I think it's still page one, Tommy.
Tommy Blackburn: I think you're right. Changes every year.
John Mason: That changes every year. So, you did damage above the line, which means you increased your adjusted gross income by not doing qualified charitable distributions, which means you already impacted your social security. You automatically impacted your Medicare potentially. So, by taking that RMD, you've done damage even if you can deduct it on your schedule.
Tommy Blackburn: Right. Maybe there's a case out there that you could say itemizing is more beneficial. We certainly would look at it for our clients, but it's hard to imagine generally, if we can just avoid the tax return altogether and we never pay tax on that money, that's a win.
The other thing, even if we're taking it as an itemized deduction, there are certain things on the itemized deduction schedule that are based on that page one of your tax returns. So, like our medical deductions, so we just increased our income, which may have reduced our medical. So, yeah, generally, if we can avoid hitting the tax return, that's a win.
Michael Mason: No absolutes here your folks, but if your financial planner's not talking about QCDs with you and your tax preparer is not asking you about your charitable nature or your IRAs, and are you doing QCDs, then you probably have the wrong financial planner and the wrong tax preparer.
One last thing on limitations of TSP; if you have a Roth balance in your TSP, it's 72-years-old, Thrift Savings Plan is going to force out required minimum distributions. If you move that to a Roth IRA, there are no required minimum distributions for the owner of that Roth IRA or that owner's spouse when he or she inherits it.
So, I think we've covered limitations on Thrift Savings Plan. As we close the show, just a couple of notes, a couple of caveats that we want to make sure we get out there because we're talking about Thrift Savings Plan rollover.
So, number one on this: you shouldn't do any financial planning unless you know the full qualifications of your financial planners. So, they should have experience in you. As a federal employee, they should know you. We've helped federal employees for 34 plus years. They should have some credentials.
So, make sure you're working with qualified folks. Understand that 10% penalty that you can avoid when you're retired before age 59 and a half, by leaving some money in Thrift Savings Plan. Also, understand that you can roll money back into TSP.
This is the only plan that we are aware of, that you can leave your employee, pull money out — as long as you keep the door open, pull money out and then roll money back into effectively, your 401(k). You can't do that with Exxons 401(k) or Huntington Ingles 401(k); you need options.
Tommy Blackburn: I don't think any of us have seen anything else like it out there. And that's why it is … if you treat it like what it is, which is a tool, it's not a plan, but it certainly can be a compliment to your tool and having that ability to move money back in.
And Mike, I'm guessing we're going to hit on some of the circumstances we know of now, as well as we just never know what's coming as to why we like to keep that door open because we can move money back in.
Michael Mason: Yeah. And you've got one instance and North Carolina's right beside us, so we know this. The Bailey Act in North Carolina allows certain federal employees based on when they were vested in their retirement to pull not only … their pension is tax-free in the state but money out of their 401(k) or their TSP is tax-free in the state.
You may not live in North Carolina now, but you may find yourself 10 years after retirement moving to North Carolina. So, keeping the door open for that reason is good.
Tommy Blackburn: I think even, this is maybe trying to get you to reach back in your mind a little bit, but there was a state, I think, in the Midwest that you saw that distributions from TSP more or less were not taxable.
Michael Mason: Yeah, Illinois any of your distributions; your IRAs, your TSPs or whatnot — so that's a great point. You don't even need the Bailey Act there. All you have to do is move to Illinois and they have a state tax.
You know, if you're in Nevada or Texas with no state tax and that's a no brainer, it doesn't matter where it is. But in Illinois, they have a state tax, but they exempt retirement. And that includes your IRAs and your 401(k)s.
If you’re ever dissatisfied with the person that moved that money for you — and we do this, we keep the door open. Because if you're dissatisfied, we want to get you right back where you came from, and you can roll money back into TSP. If there's significant improvements to the Thrift Savings Plan and as a fiduciary, it makes sense to move the money back, that's one of the reasons we keep the door open.
John Mason: TSP is a great planning vehicle, guys. It's a great tool like you both have mentioned. In this like note section that we're doing, I think what makes TSP very compelling is it's easy, right? So, while you're working, it's just payroll deduct. It's also easy that there's only like five funds available and then some Lifecycle Funds.
I think research indicates that the more funds you have to choose from, the more higher likelihood that your performance suffers because you have more funds to choose from. So, TSP is easy to use, it's payroll deduct and they keep it simple. So, we've got three good things there.
Notice what I did not say? Is cost. I don't believe that cost is a significant reason on why one would keep money in TSP anymore. The Vanguard ETFs, the iShares, the ETFs that are available out there, have very, very similar, maybe in even some circumstances, lower cost than the index funds inside of TSP.
So, what used to make TSP super compelling was it's free or it's very low cost. But as a lot of like internal expense ratios have come down, TSP is not really winning on cost anymore.
Now, granted, if a federal employee hired Mason & Associates, we are going to be more expensive than TSP, but that doesn't mean that the underlying positions that we're buying are more expensive than the C Fund or S Fund.
So, cost, in my opinion, I think you guys would agree, is not a compelling reason to leave that money in TSP anymore, which is an interesting note, but what makes it kind of compelling is just while you're working, it's easy and they keep it simple with the minimal amount of funds.
Michael Mason: So, folks your TSP, a great accumulation vehicle, mainly because you have no other choice. You're an active federal employee, it's a great accumulation vehicle, very illiquid up until retirement or age 59 and a half.
You know, once you get to either of those places, we really think with a qualified financial planner, one with experience with federal employees or military, you should be looking at your options for rollovers to give yourself more liquidity and more options as we've mentioned these limitations.
John Mason: Folks, if you're liking this podcast, please, please leave us five stars, share it with your coworkers, both sitting right next to you or zooming with you on a daily basis. Share them with your friends across the country.
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