AND IMPACTS MANY OF THESE ARTICLES. they are correct at the time they are written. however, IT IS NOT POSSIBLE TO RE-WRITE EVERY SINGLE ARTICLE AS EACH LAW CHANGES. PLEASE MAKE SURE YOU RESEARCH THE LATEST RULES REGARDING YOUR INTENDED FINANCIAL DECISION. IT IS ALWAYS BEST TO CONSULT A PROFESSIONAL (CPA, CFP, ESTATE ATTORNEY, ETC.)
RETIREMENT IS TOO BIG AND TOO IMPORTANT TO SCREW UP
What if TSP Screws up my 1099-R?
NOTE: ALL of this refers to the TRADITIONAL TSP. If you are making Roth TSP withdrawals prior to 59 1/2 (law enforcement or not), your earnings are not qualified and you’ll owe some taxes on that Roth TSP. Everything that follows is regarding the Traditional TSP. If you don’t know the difference, or you think they are the same rules, you need to spend some time on the TSP website researching their literature to educate yourself. The rules are different between Traditional and Roth. A lot different.
You’ve retired. You took some of your Traditional TSP money out last year. You are doing your taxes now and you have your 1099-R from TSP. Unfortunately, they are saying you’re not eligible for early withdrawals and now you owe a 10% penalty. What can you do?
Let’s talk about it. It’s probably not that bad.
10% EARLY WITHDRAWAL PENALTY
First of all, what is the 10% penalty?
Normally, if you withdraw money from a retirement account (TSP, 401k, IRA, etc.) prior to 59 1/2 years of age, there is an additional 10% penalty (technically a tax). However, there are exceptions within the Traditional TSP for you retired Fersonians.
Exception 1: Regular FERS. If you are under the Regular FERS system, if you separate from the government in the year you turn 55 or later (not necessarily BE 55, but in the year you TURN 55), you are exempt from the 10% early withdrawal penalty on Traditional TSP withdrawals.
Exception 2: SCE FERS. If you are public safety and retire under the 20 and 50 rules, or the 25 at any age, you are exempt from the 10% early withdrawal penalty. You do NOT have to work into the year you turn 50 anymore, if you’ve done 25 years in the plan. For example, DEA agent is hired at 21. Retires at 46. He’s done 25 years in the plan, he can immediately start withdrawing from Traditional TSP without the 10% penalty at 46 (or any time thereafter).
Chris, are you sure about this? I was told that I have to retire in the year I turn 50 or later.
Yes, I’m sure. You are quoting the old rules. The new rules changed in December of 2022. And some of you HR people need to get up on the new rule. I know some are still telling LEO’s they can’t retire yet!
When you get your 1099-R from TSP for your withdrawals, there is a particular box you want to pay attention to on that thing. “Box 7 Distribution code(s)”. There could be any combination of letters and numbers in there. (The back of the 1099-R shows all of them). If you’re taking a withdrawal prior to 59 1/2, you want to see a “2” in there. That means “Early distribution, exception applies (under age 59 1/2)”. That means that TSP understands you are NOT subject to the extra 10% penalty. When you dump all these documents off to your CPA, they won’t file your taxes as if you owe the extra 10%. That’s how things SHOULD work. All is right in the world if it’s like this.
But what if it isn’t?
You might have a “1” in Box 7. That’s not ideal. But it’s not the end of the world. TSP, for various reasons, thinks that you are not exempted from the 10% early withdrawal penalty and they coded you as such. If you don’t do anything about this, and just give it to your accountant, they will process your taxes as if you ARE responsible for this extra 10% and you’ll be paying more taxes than you should.
By the way, having an erroneous “1” in Box 7 is pretty common. My wife had that last year, and multiple people have called me already this tax season to tell me they are having problems this year again with their 1099-R.
So what is the remedy? There are two primarily.
HAVE TSP FIX IT
You can call TSP and ask them to look into your file. If you are law enforcement/firefighter, you are deemed to be a Public Safety Officer (PSO). Within TSP’s system, you should be coded as “P”. Your agency has the responsibility to notify TSP that you should be coded as such. Hopefully they did that. Sometimes they do not.
3/9/24 UPDATE:
According to Daniel who posted in the comments below, there is a link on TSP HERE. This explains the exact process for a public safety officer to be coded as “P” within the TSP system. The payroll processor does this at the time the employee separates. This seems to imply that TSP will not know if you are public safety until you separate?
Specifically, TSP Bulletin 15-4, Dated 12/4/15 states in part:
“When a public safety employee separates from federal service, the servicing payroll office must submit an Employee (06) Data Record (EDR) containing the new “P” Employment Code and the appropriate Employment Code Date corresponding to the date of separation. Agencies should submit the “P” code regardless of the employee’s age.”
(THANK YOU DANIEL!!)
(Also, thank you to Jason, Jeremy and Daniel, who led me to check my TSP personal details online and see that I am coded under “Personal Details” under “Personal Information” under my profile, as “PublicSafe”. Thanks, guys!).
If you are coded as “P” within TSP, and TSP issued you a 1099-R with “1” in Box 7, you can ask them to resend you a corrected 1099-R that has “2” in the box. In my experience, as long as you are actually coded as a PSO in TSP’s system, they will do this. They’ll issue you a corrected 1099-R with “2” in Box 7. I have seen that done multiple times, including to Mrs. Barfield Financial last year. Fairly simple stuff.
However, if TSP does NOT have you coded as “P” in their system, my experience is they will NOT reissue you a 1099-R. They will ask you to ask your agency (which is now your former agency since you’ve retired) to send something over to them to prove you are a PSO and should be coded as “P”. This is not that simple. But that is a permanent fix, if you can get it accomplished.
FIX IT YOURSELF
When 1099-Rs are issued incorrectly, or incompletely, there is another remedy. The taxpayer can file IRS Form 5329 “Additional Taxes on Qualified Plans”. This is a form that you attach to your 1040 when you file for the year that basically states that you are representing that your 1099-R is incorrect and you are not, in fact, subject to the early withdrawal penalty (among other things). This is a very commonly filed document.
On Line 2 of the form, it will ask you to report how much of your TSP withdrawals that you listed on Line 1 are exempt from the 10% early withdrawal penalty. Assuming you meet the qualifications above, then it would be ALL of your TSP withdrawals. All of them would be exempt. Or another way of saying it is that NONE of the withdrawals are subject to the 10% penalty.
Also on Line 2, there will be a blank where you have to “Enter the appropriate exception number from the instructions”. If you are a PSO, that exception number is “1”. You can easily find the list of exception in the Instructions for 5329.
As you can see in the screen shot below, it lists your EXACT exception, “…year you reach age 55 (age 50 for qualified public safety employees and private sector firefighters) or 25 years of service under the plan, whichever is earlier.”
You can file this form with your 1040 and you should not be subject to the 10% early withdrawal penalty, even if you send in the 1099-R that TSP coded incorrectly. Please discuss this with your accountant.
There are some people that file the 5329 every year. Now, at some point, it should not be an issue anymore. Once you reach 59 1/2 years of age, there is no such thing as an early withdrawal penalty, so the code should not be 1 or 2 at that point on your 1099-R because it is not an early withdrawal anymore.
SUMMARY
Hopefully this helps. As always, this is not tax advice.
I’m a CPA, but I’m not YOUR CPA.
This is written just so that you can more effectively and knowledgeably communicate with your CPA about how your taxes should be done. Understand that your tax professional may not have ever heard that a 48-year-old can withdraw from their retirement account penalty free. It goes against every other rule they know. So it might take a little bit of educating them on your part. I actually did that for someone yesterday. That’s why this is written.
WARNING: Taxes aren’t the time to try your hand at DIY. Find a pro and avoid big problems in the future!
