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Financial Questions & Answers

Financial Questions & Answers

Question:

I just read your article in the March 2012 American Legion Magazine regarding Roth TSP. I am very interested in this, but I am a little concerned since I have a traditional TSP account. I have been retired since 2007, and can no longer make contributions to it. Now I am worried that if I wait until I’m 70 1/2 years old to roll it over or withdraw my funds, I might suffer a huge tax “haircut” as you say. Do you have suggestions? Am I eligible for the TSP Roth? I am currently 60 years old, and I want to make sure I am doing the best thing! -Keyser

Answer:

It’s hard not to like the "tax free." However, we didn’t mean to get you extremely worried. Our point was simply that every withdrawal you make from the TSP or any other traditional retirement plan will be treated as ordinary income. That’s the bad news. The good news is that no one is going to force you to take out all of your TSP in one big distribution that could create a huge tax bill. In fact, for most folks, the first required minimum distribution at age 70 ½ will represent less than 4 percent of their account balance. However, that doesn’t mean you should just sit around and wait until you get to 70 ½. Here are a couple of approaches you could discuss with your tax adviser:

  1. Consider voluntarily withdrawing funds from the TSP (or other traditional retirement plan). For example, based on your tax situation, if you can withdraw funds from your retirement plan and pay only 15 percent income tax, it may make sense to do so and clear the "tax hurdle" at what is historically a favorable rate.
  2. Consider converting a portion of your traditional retirement plan to a Roth IRA. Similar to the first strategy, you could roll over traditional retirement plan dollars into a Roth. Since this would also trigger income taxes, you would do it in a manner similar to what we discussed above.

The exact strategy that you adopt will be based on your specific situation, but the important thing is to start looking at your options now, while you have time.