Roth Thrift Savings Plan Explained: Part Two

This is the second of a two-part article explaining the Roth TSP. In Part One, we covered contributions, withdrawals, and the weird 5-year waiting rule. In this one, we'll cover some unique transfer regs as well as the Required Minimum Distributions (RMDs).

Cash Flow—a One Way Street 

Remember that while the Traditional TSP to traditional IRA can flow both ways, i.e., you can transfer IRAs into the TSP, and you can transfer the TSP into an IRA, the Roth TSP can ONLY go one direction: To a Roth IRA. You cannot transfer Roth IRAs into the Roth TSP. You can transfer Roth IRAs to other Roth IRAs, but you can’t transfer a Roth IRA into the TSP. 

However, if you have some other, employer-sponsored Roth retirement plan, you can. (These are often called "Designated Roths"). For example, let’s say prior to the government, you worked at a company that had a Roth 401(k), which you contributed to. Since the Roth TSP is under those 401(k) rules, you could transfer that former employer Roth 401(k) into your Roth TSP. You could then later transfer that money from the Roth TSP to a Roth IRA. But once it’s in a Roth IRA, it’s in there for good. It can’t go back into the Roth TSP or the Roth 401(k).  Sounds odd? Contact your local IRS office and explain how they need to simplify this. I'm sure they will be very receptive.

Like I mentioned before, Roth rules are not the same. Roth 401(k)s are not always compatible with Roth IRAs and this is one area where they are different. Roth IRA money cannot go into a Roth TSP account. 

Required Minimum Distributions 

So, why transfer the Roth TSP to the Roth IRA? Well, there may be many valid reasons. The 5-year rule may not make any difference to you. For example, if you’re an SCE and retire at 50, you can’t get your Roth TSP or Roth IRA until you’re 59 ½ so transferring it at 50 means the 5-year waiting period will be automatically satisfied, since you have to wait until 59 ½ regardless. 

Maybe you already have a Roth IRA open that has satisfied its waiting period so rolling it over to an IRA doesn’t add any additional time. 

One of the most popular reasons for rolling it to a Roth IRA is that a Roth IRA is not subject to required minimum distributions when the account holder reaches 72. In many retirement accounts (Traditional TSP, traditional IRAs, and Roth TSP), when the holder reaches 72 years of age, they generally have to start withdrawing money from their account based on their life expectancy. Since these distributions from the account are required by the IRS and they set a minimum amount that you have to withdraw, they are called required minimum distributions, or RMDs in financial nerd-speak. 

For many people (myself included), RMDs mean nothing. I’ll be withdrawing money long before I hit 72 and will be enjoying it while I still have relatively good health. Saving and sacrificing for 30 years only to not use the money in the end makes little sense to me. However, other people are so withdrawal-averse that they want to keep their money in their accounts as long as absolutely possible. (Their heirs generally prefer this approach as well—not enjoying the money yourself typically means there’s more of your money for others to enjoy). Some investors are so insistent on not paying taxes that they will forego the benefit of their money themselves just so they don’t have to pay the government. If not actually using your savings until very late in life is important to you, transferring your Roth TSP to a Roth IRA may be just your strategy. 

Incidentally, this strategy pretty much negates the downside of the 5-year waiting period, since anyone planning to avoid the RMDs has probably long since transferred the money to a Roth IRA and 5 years will most certainly have passed before they reach 72. If you’re planning on not using your money even in your early 70’s, you probably don’t care about having to wait 5 years from the transfer to get access to it. 

What are the Negatives? 

Accessibility. Are there any downsides to moving a Roth TSP to a Roth IRA? Well, maybe. Here are some things to consider that may or may not be applicable in your situation. If you’ve reached the age of 59 ½ and you’ve had your Roth TSP for 5 years, and you don’t already have a Roth IRA that has been opened for 5 years, transferring the money to the IRA means you can’t get it immediately. As I stated before, the clock restarts in this situation. Re-read the examples above. 

So, accessibility may be delayed, depending on your age and holding period. 

Liability. Creditors do not have access to your TSP or 401(k), but they could have access to your IRA. This is because the TSP is actually a trust fund. Your funds in the TSP are protected from creditors by law: 5 USC §§ 8437 (e)(g). If you are concerned about lawsuits, bankruptcy, or other matters, this may be something to consider. If this is a concern of yours, you need to speak to a CPA, financial planner, and probably an attorney to get more details. 

Costs. Some IRAs have low expenses, some have high expenses. If a financial planner is involved in actually managing your investments, you can almost certainly count on them being a lot more expensive than the TSP fees. This may not be a deal killer—perhaps you make more than enough money in the IRA to justify the added fees. Just please understand the fees, what you will be charged, how the fee structure works, etc. Some planners are flat-fee, some are hourly, and some charge you a certain percentage of the value of the account. This last one will typically have the phrase “Assets Under Management”, or AUM, located in the fee structure—just something to look for. Sometimes financial planners are fiduciaries—meaning they have to have your best interest at heart, even if it conflicts with theirs. Sometimes planners will charge you very little, but get commissions from the products they sell. Some of those products may not be what you would normally pick, but if they make a high commission on them, you may be pushed in that direction. Just do your homework and know what you’re getting into; that’s all I’m saying. 

Summary 

This is not an exhaustive discussion on Roths. I did not mention back-door Roth contributions, Roth beneficiary accounts, income phase-outs for Roth IRAs, and several other things that cause CPAs to get hot and bothered, while it causes everyone else to suddenly wish their phone would ring to rescue them from the conversation. This is why you pay a CPA—to solve problems you didn’t know you had, in a way you’re not interested in learning about. 

Remember that there is a difference between employer plan Roths, often called “Designated Roths” (Roth 401(k)’s, Roth 403(b)’s, Roth TSP, etc.) and Roth IRA’s. And each category has their own rules.  And they are not all compatible, so check with a professional to see if your particular strategy is a viable one.

I will leave you with this. I see people wanting to fight to the death arguing over Roth vs Traditional TSP. WHERE you put your savings is far less important than MAXIMIZING your savings. Expend more energy figuring out how to save more, before you get into arguments over the Roth. I don't see many people regretting having a million dollars in their Traditional TSP. I do see people regretting only having $100,000 in their TSP when they retire.