The TSP savings rate is up, but so are the number of TSP loans

Federal employees do a great job saving for retirement in the Thrift Savings Plan, and the numbers prove it. Here are a few of the outstanding statistics:

• Total TSP assets at the end of 2023 were $845 billion. 
• 4,060,009 FERS TSP accounts with an average account balance of $175,692.  To compare, the average 401(k) balance based on 4.9 million defined contribution retirement plans was $112,572 at the end of 2022, according to Vanguard's 2023 analysis. To compare more accurately, at the end of 2022, the average TSP balance for a FERS employee was $157,325. 
• The rate of participants taking advantage of the full match reached another record for 2023: 86.8% for FERS. This is up from 79.4% in 2019. 
• Roth participation also reached a record high for 2023 at 36% of participants with a Roth balance.  

On the worrisome side, TSP participants' usage of general-purpose loans was up 40% in 2023. At the end of 2023, a little less than 480,000 general-purpose loans were outstanding totaling a little less than $5 billion. Residential loans were well under $2 million for around 5,000 that were outstanding in 2023. You can have two outstanding TSP loans, but only one primary residence loan, per account. That means you can have two general purpose loans for each account, or one general purpose loan and one primary residence loan. 

The biggest pre-retirement question I get is, “How should I spend my TSP account in retirement?”   

According to the TSP, you don’t have to do anything. You can leave your money with the plan. You’ll be notified if you’re not eligible to leave your money in the plan or when you need to begin receiving Required Minimum Distributions (RMD). If you withdraw your savings, you may want to consider rolling it directly into another eligible employer plan or an IRA. This option lets you defer taxes and allows your savings to continue to grow. 

However, allowing your account to continue to grow may also increase the amount that you may need to withdraw later for RMDs which can hurt your total tax liability and can increase the cost of Medicare Part B due to the Income Related Monthly Adjustment Amount imposed on the part B premium for those with incomes higher than $103,000 (single taxpayer) or $206,000 (those filing a joint tax return) in 2024. If you choose to rollover taxable amounts to a Roth IRA, you'll be required to pay taxes on those amounts in the year you receive the distribution. You may want to consult a tax advisor to review your options. For additional tax information about payments from your TSP account, see TSP Publication 26.   

Besides purchasing a life annuity or taking occasional partial withdrawals, the TSP offers two basic ways to take regular distributions from your account: fixed installments or life expectancy installments.   

Fixed Installments 

With fixed installments, you can choose a specific dollar amount to withdraw automatically according to the frequency you choose. These payments will continue until you change your mind or until the money runs out. At the time you make your choice, you may choose the amount of each installment, the date you want the payments to begin, and the frequency (monthly, quarterly, or annually) for each payment. For example, you may choose a monthly payment of $1,500.   

The TSP will withhold 10% federal taxes. If your balance is expected to be depleted in less than 10 years, your installments are eligible for rollover and subject to a 20% federal tax withholding (unless directly rolled over to a qualified plan). Payments are processed in your account on the 15th of the month (or the next business day per your elected frequency) and direct deposits will be sent to your financial institution within two to three business days. If you are receiving installment payments when you reach the age for Required Minimum Distributions and the payments made throughout the year are not sufficient to cover your RMD for the year, an additional amount will be automatically distributed to satisfy the RMD.   

If you need to change your installment payment, amount, source, or frequency, you must cancel your current installment payment and submit a new request to restart them with your desired changes. You must wait at least 30 calendar days from your previous installment payment request to submit a new one. You can stop or change your life expectancy installment payments to fixed dollar installment payments within 5 years or before age 59.5 (beware of the 10% early withdrawal penalty tax unless you were exempt from this penalty when you separated from federal employment).  

You may also take an additional withdrawal from your account after your installments have started. However, any additional partial distributions you take may impact your original installment terms. If this occurs, you will receive a notice alerting you to the recalculation. A total distribution will cancel your installments. 

Life Expectancy Installments 

You may elect payment amounts based on your age and account balance at the time of your first installment. The TSP uses IRS life expectancy tables to compute the factor to determine your payment amount. Your entire account balance is used to calculate the installment. Each January your installment is recomputed based on your age and account balance at the end of the preceding year.   

Reasons to move some/all to IRA  

For some retirees, the simplicity and low cost of keeping their retirement savings invested in the TSP isn’t enough. They are looking for easier access to their savings and fewer restrictions than they perceive by using the TSP to hold their retirement money. You may decide to move some or all of your TSP balance to an Individual Retirement Arrangement, however, you must have a minimum balance of $200 to keep your TSP open. 

1. An IRA can offer more investment options targeted to specific sectors of the market for greater diversification (the TSP Mutual Fund window offers greater investment options but beware of fees and expenses). 

2. The inability to convert from traditional TSP to Roth TSP. Roth conversions must be done outside of the TSP. 

3. The inability to use Qualified Charitable Distributions through the TSP. Generally, a qualified charitable distribution is an otherwise taxable distribution from an IRA (other than an ongoing SEP or SIMPLE IRA) owned by an individual who is age 70 1/2 or over that is paid directly from the IRA to a qualified charity.   

4. You would like to transfer the management of your investment to a financial professional 

5. The TSP allows you to choose to take withdrawals from the traditional or Roth balances, however, there is no ability to draw from specific funds; all withdrawals are made pro-rata between G, C, F, S, I and L Fund distributions.   

I recently received an email from Bill who wrote, “Good to have a budget plan, but many of us over age 70 retirees, snicker at applying a 4% Withdraw Rule to our IRA, 401K, or TSP Pensions because it is BS and a trap. The IRS forces us to withdraw from our pensions starting at age 73 and the rate is much higher than 4% at age 75 and escalated every year after based on the IRS Withdrawing tables for IRAs, 401Ks, and TSP. Failure to withdraw the correct annual amount and the IRS will hit you with a penalty on the amount you do not withdraw.”    

Bill is correct that once the RMD factor is less than 25 (the amount of your balance is divided by a factor on the IRS life expectancy table based on your age), you will be withdrawing more than 4% of your balance.   

Here is what to know about the 4% rule: 

In 1994, a financial advisor named William Bengen wanted to establish a safe rate of withdrawal from retirement savings so that retirees could be confident that they wouldn’t outlive their savings. The way that it works is that in the first year, you can simply withdraw 4% of your balance. For example, if your balance is $500,000, then you would withdraw $20,000 ($500,000 x 4%). It is important to remember that if you are withdrawing this from your taxable savings, this is the amount you would pay tax on which will reduce your spendable amount.   

After the first year an inflation adjustment is added to the original amount withdrawn.  For example, if you withdrew $20,000 in year one and inflation that year was 3.6%, then the next year you would withdraw $20,720 ($20,000 x 103.6%). 

Bengen suggested that you have your portfolio invested in 50% large-cap stocks, such as the C Fund and 50% intermediate-term Treasury bonds. The G Fund invests in short-term U.S. Treasury securities. Medium-term debt is a bond or other fixed income security with maturity, or date of principal repayment, set to occur in two to 10 years. According to Morningstar, the G Fund has outperformed intermediate-term Treasuries on a risk-adjusted basis. The G Fund is a protected account, meaning it can grow but not lose money. It invests in low-risk, low-yield government bonds and guarantees principal protection to investors. Today, Bengen more specifically suggests 20% small-cap (S Fund) and 30% large-cap (C Fund) to achieve the goal of not running out of money.    

In contrast, the RMD requirements have nothing to do with inflation but instead aim to have you deplete your taxable retirement savings gradually over your lifetime by taking larger payouts as each year goes by. The goal is for the government to get the tax revenues on the money that you’ve been saving on a pre-tax basis. The TSP uses the IRS Uniform Lifetime Table. In this table, the distribution period at age 73 is 26.5 years, but at age 83 it is 17.7 years and at 93, it is only 10.1 years. To compute the RMD at age 73 for a $500,000 account balance, divide $500,000 by 26.5 to see that the RMD is $18,868. For an 83-year-old, it would be $28,248 ($500,000/17.7) and a 93-year-old would have to withdraw $49,505 ($500,000/10.1).   

Rob Berger, a personal finance and investment expert, says that although you must pay taxes on a larger portion of your pre-tax savings as you age, this doesn’t mean you have to spend this money. You could continue to compute the spendable amount using the 4% rule and invest the balance in taxable investments or CDs or a cash account, depending on your plans for this money.   

According to Berger, the 4% rule is not a promise but a result of research and data. It is a good starting point for retirement planning but may not be practical for retirement spending. Ideally, we would like to spend as much as we need without running out of money. 

But maybe all this talk about spending strategies doesn’t matter. According to the Center for Retirement Research at Boston College, half of retirees are afraid to spend their retirement savings. In addition, according to RAND research, spending declines broadly in our later years, including among those in the highest wealth group. The reason for the decline may not be related to economic position but to other issues such as declining health in older years.   

It is important to remember that FERS was designed as a three-tiered retirement plan.  This type of retirement will ultimately produce three streams of income for retirement; the FERS Basic Retirement benefit, Social Security retirement, and income created by your TSP savings. After a full career of working and saving for your golden years, remember that your retirement savings are part of the plan. 

Of course, you don’t want to deplete your savings too quickly, however, it is important to use some of your savings to enjoy your life after retirement if you are fortunate to have the luxury of good health and enough income to support your lifestyle in your retirement years.