What is a Thrift Savings Plan & How a TSP Works?

thrift savings plan
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A thrift savings plan is available to almost all federal employees and members of the uniformed services. However, very few understand what it is and how it can help them save for retirement. 

A thrift savings plan (TSP) is an investment and retirement savings plan specifically designed for federal employees and members of the uniformed services. By investing in a TSP, they enjoy tax benefits, automatic or manual fund allocation, and matching contributions from their respective agencies.

In this article, I’ve put together a comprehensive overview of the thrift savings plan, discussing who is eligible, how to apply, the difference between a Roth TSP and a traditional TSP, and when you can take money out of your TSP account.

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How a Thrift Savings Plan (TSP) Works

A thrift savings plan (TSP) is a defined contribution (DC) plan designed to help federal employees invest a portion of their regular income into a long-term savings account for their retirement.

TSP was introduced with the Federal Employees Retirement System Act of 1986. The intention was to offer federal employees the same benefits of retirement accounts like 401(k) and the 403(b) available to employees in private and non-profit organizations.

Just like these requirement accounts, a TSP centers around the following 3 features:

  • Allows employees to invest in tax-advantaged retirement accounts. 
  • Automatically deducts a set amount of funds from the payroll and allocates it into the TSP funds. 
  • Provides an opportunity to earn free money via employee matching contributions.

Are You Eligible for a TSP?

You are eligible for TSP if you’re an actively employed federal worker, either full-time or part-time, who is on a payroll. This includes FERS and CSRS employees, members of the uniformed services, and civilians working in certain additional government services. 

Here’s a breakdown of the various categories of federal employees that are eligible for TSP:

  • Employees who are a part of Federal Employees Retirement System (FERS). This includes most federal employees who started working after 1987.
  • Employees who are a part of Civil Service Retirement System (CSRS). This includes most federal employees who started working before 1987.
  • Members of the uniformed services like the Army, Navy, Marine Corps, Air Force, and Coast Guard.
  • People working in other federal service categories like congressional positions, judges, etc.

How to Apply for a TSP Retirement Account?

Eligible workers can apply for a TSP retirement account from their agency’s electronic payroll system or by filling and submitting the TSP-1 or TSP-U-1 forms.

That said, FERS employees hired after August 1st, 2010, were automatically enrolled in the TSP.  If you are a FERS employee who joined after October 1st, 2020, your federal agencies should have automatically started your TSP by cutting 5% of your basic salary.

Whereas FERS employees who joined before October 1st, 2020, but after August 1st, 2010, were also automatically enrolled in the retirement plan, but at 3% of their basic salary.

Note: Currently, 5% is the minimum contribution you need to make to get a matching contribution from your agency. If you choose to contribute less, you might not be eligible for a matching contribution.

If you’re a CSRS employee and didn’t start a TSP account earlier, you can still start one now via EBIS, LiteBlue, myPay, Direct Access, Employee Express, or whichever electronic payroll system your agency uses.

You can check out the official TSP help guide for more specific information.

TSP Investment Options

The money you put into a TSP is invested into a life-cycle fund by default. This fund contains a percentage of 5 funds with varying risks. This percentage is rebalanced to less risky funds as you near retirement.

There’s also the option to allocate your investments into specific funds manually.  The life-cycle fund is also known as the L Fund. Under it, you have the following 5 funds:

  • G-fund: invests in government securities. Its risk-return ratio is the least.
  • F-fund: invests in government and corporate bonds. Its risk-return ratio is low to moderate.
  • C-fund: invests in index funds that mirror the S&P 500. Its risk-return ratio is moderate.
  • S-fund: invests in small-cap stock index funds. Its risk-return ratio is moderate to high.
  • I-fund: invests in international stock index funds. Its risk-return ratio is the highest.

If you’re young, the L fund will allocate most of your investments into the C and S funds with little into I, G, and F. However, as you get older and near retirement, most of your investment will go into G and F funds, some into C and S, and barely any into I.

This is a good investment strategy for people who don’t understand or want to bother with investing their money. However, if you know what you’re doing and want control over your investment, you can access your TSP account and manually pick how much of your investments will go into which of the 5 other funds and for how long.

Traditional TSP vs. Roth TSP

Like with IRAs, there are also two types of TSPs - traditional and Roth.  A traditional TSP will deduct pre-tax contributions from your salary and add them to your retirement account.

You won’t have to pay any tax on this investment until you start taking distributions. This is usually after you reach retirement age.

Alternatively, a Roth TSP deducts post-tax contributions from your salary. In this case, you pay the taxes upfront before investing in the TSP account, but all your invested money and earned interests won’t be taxable when you’re taking out qualified distributions.

If you were automatically enrolled into a TSP, it was done into a traditional option. If you wish to switch to a Roth TSP, you’ll need to do so manually.

Investing in a traditional TSP makes sense if you think your current tax bracket is high, which won’t be as high when you retire. It also helps you lower your taxable income.

Conversely, a Roth TSP is recommended if you think your tax bracket will be higher when you’re older.  Also, you can switch between a traditional and Roth TSP and mix your investments between both systems depending on your financial situation and necessities.

Important: If you receive a matching contribution from your agency, that always goes into a traditional TSP as a post-tax contribution. 

When Can I Withdraw from My Thrift Savings Plan Without Penalty?

You can withdraw money from your TSP account without penalty if you’re 59.5 years old. If you take distributions early because of financial hardship, a 10% penalty will be levied, and the amount will be taxable.

In case of permanent disability or death, savings in TSP can be withdrawn anytime.  Although you can start taking out your TSP distributions once you turn 59.5, you can still keep it in the account and let the sum grow.

However, TSP withdrawals become mandatory once you’re 72.  You can also roll your TSP distributions into another retirement savings plan and further defer your taxes.

Now, if you take out money before you’re 59.5 because of financial hardship, you can do so, provided you pay a 10% penalty and tax on the withdrawn sum.

Furthermore, if you take out money from a traditional TSP, you will need to pay taxes on it per the tax bracket for that future time.

However, the clever way of prematurely utilizing the money in your TSP account is by taking a loan against it. You can get a minimum of $1000 and a maximum of 50% of the vested balance in your TSP account.

Key Takeaways

A thrift savings plan is an investment and retirement plan for federal employees. Enrolled members enjoy tax-saving benefits and the option to get equal contributions from their agencies. 

A TSP allows you to automatically or manually allocate your investment into different funds with varying risk-return ratios. There are also traditional and Roth options to control how you want your investments to be taxed.

Because a thrift savings plan is made for retirement, if you take out distributions before you’re 59.5 years old, there’s a 10% penalty charge.

However, you are free to take loans against your TSP savings.

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