The Thrift Savings Plan (TSP) has announced new details about its TSP Roth Conversion feature, set to launch in January, allowing participants to convert their traditional TSP balances into Roth balances. This option offers a strategic way to manage retirement savings for tax advantages.
Traditional vs. Roth: Key Differences
Contributions to a traditional TSP are made with pre-tax dollars, meaning withdrawals, including earnings, are taxed later. In contrast, Roth contributions are made after taxes, allowing qualified withdrawals, including earnings, to be tax-free. Additionally, Roth balances are exempt from required minimum distributions (RMDs) at age 73, unlike traditional balances. However, agency matching contributions for FERS employees will continue to be allocated to the traditional TSP account.
How the TSP Roth Conversion Works
The process of converting funds involves moving pre-tax money from your traditional TSP balance to a Roth balance. As the TSP notes, “If you don’t have a Roth balance in your TSP account, your first Roth in-plan conversion will create one.” They further explain, “When you convert pre-tax money from your traditional TSP balance, your Roth in-plan conversion amount will become part of your taxable income for the year. This means that you’ll pay income tax on the conversion amount based on your income tax rate. You must pay the income tax on the conversion amount using personal funds from another source, such as a savings account. You cannot use part of the conversion amount in your TSP account to pay taxes.” This taxable event requires careful financial planning.
The TSP also advises, “If you’re considering doing a Roth in-plan conversion, we strongly recommend that you consult a tax advisor to start planning how it would affect your taxable income and estimate how much you may need to pay in taxes.” To assist with this, the TSP is developing a calculator to help estimate the tax implications of a conversion.
Additional Information on TSP Roth Conversion
The TSP Roth Conversion option will be available to active participants, separated employees, and spousal beneficiaries. The minimum conversion amount is set at $500. The TSP will report the taxable conversion amount to the IRS for the year it occurs, but it will not withhold taxes, so participants must arrange to cover the tax liability. As of July’s end, approximately 2.82 million of the 7.25 million TSP account holders held Roth balances totaling roughly $81 billion.
Not sure if an in-plan Roth conversion is right for you? Speak with a Federal Retirement Consultant (FRC®) who can give you a comprehensive benefits analysis and advise you of the strategy that best fits your needs.
