A few weeks ago, I published an article through NerdWallet discussing some of the aspects of the government’s Thrift Savings Plan (TSP). This post will go into more detail on why I think TSP is one of the most overlooked benefits of working in the government. For reference, you can check out the article here.
As you know, Thrift Savings Plan is the government’s answer to a 401(k) or other employer-provided retirement plan. TSP was established in 1986, as part of the Federal Employee Retirement System (FERS), which replaced the legacy Civil Service Retirement System. TSP was designed to allow civil employees to assume some of the risk in saving for their retirement by choosing how much to put away every month, and what to invest it in. The military did not adopt TSP until 2000, but looks to be going in the same direction. As a result of the FY 2016 National Defense Authorization Act, the traditional 20-year retirement system will no longer be available for new recruits starting in 2018. Instead, the government will automatically deposit funds into a TSP account and offer matching contributions.
I’ll quickly highlight the three discussion points from my article, but go into a little more detail about them.
1. Thrift Savings Plan Has Low Fees
TSP has the lowest investment costs of any investment vehicle out there. Take a look at Vanguard. Vanguard is generally regarded as the mutual fund industry’s low-cost leader due to its quantities of scale. When compared to their Vanguard counterparts TSP index funds are a fraction of even those. Let’s compare a $1,000 investment in the Vanguard S&P 500 Index Fund (.17% expense ratio) to the TSP C Fund (.029% expense ratio). That means for a $1,000 investment, Vanguard will charge $1.70 per year, while your Thrift Savings Plan charges 29 cents! By the way, in the mutual fund industry, an annual expense ratio below 1% is generally all right. However, index-tracking funds such as these should be below .5%, so you can see that Vanguard & TSP are both well below the industry standard. But TSP is better.
2. Provides Diversification
If you’re interested in tracking the stock market and buying or selling individual stocks, then TSP is probably not for you. However, if you’re looking for a way to just sock money away, over a long period of time (such as the course of your military career), then TSP is perfect. The fact is that between the G, F, C, S, and I funds, there is sufficient diversification to cover the major asset classes that you should be invested in. The L (for lifecycle) funds go one step further. The L funds are target funds, which means that they invest aggressively early on, then gradually adjust the asset allocation towards more conservative investments as you get closer to your target date. For example, today’s new officers & enlisted personnel will probably be invested in the L2050 fund. The L2050 fund currently is 86% invested in the C, S, & I (all stock) funds, and only 14% invested in the G & F (bond funds). In contrast, the L-Income fund, designed to conserve assets & pay out income to today’s retirees, is 80% invested in the bond funds & only 20% in the stock funds. Of course, L2020, L2030, and L2040 funds are each somewhere in between.
With the L funds, you should keep two things in mind. 1) If you invest in the L-fund, DO NOT dabble with any of the other funds. If you do, you will mess up the asset allocation that is part of the L-fund design. 2) You need to make sure you pick the L-fund that is designed for your time horizon. If you want to check when that may be, go to the TSP L-fund information sheet.
3. Roth TSP Option
This wasn’t around during my deployments, but I wish it had been. Let’s take a look at how the Roth works.
The TSP, just like a traditional 401(k) or IRA, defers taxable income. You take a tax deduction today, and defer paying the taxes until you start pulling it out. This is also known as using ‘before-tax’ money, since the money is not taxed when you contribute. In contrast, the Roth version of these plans is after-tax, meaning that your contributions are from the money left over after you pay taxes. You don’t get to take the up-front tax deduction, but all of your earnings are tax-free. When a service member contributes to a Roth account during their combat zone deployment, they get to take advantage of both sides, figuratively speaking. Since combat-zone pay is tax-free (up to the maximum amount established by law, which is the maximum senior enlisted pay + eligible combat pay), you don’t pay any taxes on it. If you put that money into a Roth account, your earnings will eventually be tax-free as well, provided your withdrawals meet the IRS distribution guidelines. This truly is one of the benefits of the military, as there are very few investment vehicles like this for civilians.
With that said, I just rehashed my article. Why? Because there are some things you need to pay attention to if you’re transitioning from the military.
1. Beneficiaries. TSP will not honor a will, prenuptial agreement, or any other legal document when it comes to distributing your assets after death. The only form that TSP will use is the Form TSP-3, which is the form you generally fill out when you first enroll. If you’ve gotten married, divorced, had kids, had parents pass away, or any other life changes, you should check what you have on file & update your TSP-3 accordingly. Otherwise, TSP will go with what is on file, or the statutory order of precedence, which you can find here.
2. Mailing Address. Now that you’re planning to stop moving around, it might be prudent to have your address updated. If you’re still on active duty, you should still go through your service. However, once you’re separated, you will have to use TSP-9, Change in Address for a Separated Participant, which you can find here.
3. What to do with your Thrift Savings Plan. The first thing to know is that you don’t have to do anything immediately with your Thrift Savings Plan just because you’re separating from the military. Although you cannot contribute to TSP after you separate (if you start a civil service career, you’ll be directed to establish a separate TSP account), you can keep your TSP account for as long as you want. When talking with financial advisors, you may be pressured to roll over your TSP into an account that they can manage. Resist this temptation. Instead take enough time to get a sense for your new situation…job, relocation, post-military life, etc. Then, sit down with a financial planner who can help you review your entire financial situation & make the best decision. Many times, you may find that the best decision is to keep your money in TSP until you are ready to start withdrawals. For more information on what you can do with TSP after separation from service, go to this TSP page.
4. Withdrawal Rules. For many people, separation from service may still mean that you’re decades from realistically using TSP withdrawals. However, if you’re in your fifties, you may want to make sure you’re aware of how you’ll be taxed on your TSP withdrawals if you choose to do so. You can find the TSP rules on this retirement page.
With regards to TSP, there are many things you should know as you separate from service. However, this is just one of the many variables that you’ll be dealing with during your transition. If you take nothing else away from this entry, just keep in mind to maintain your address & beneficiary information, and if you have nothing better to do with your Thrift Savings Plan, keep it in place until you’ve taken care of the more urgent things.
As always, you can learn more about me at Westchase Financial Planning’s website. If you have any questions, comments, or concerns feel free to contact me via email. If there is something you’d like me to write more about, please feel free to let me know. Until next time, take charge of your life!