The tax on TSP (Thrift Savings Plan) withdrawal is an important consideration for federal employees and members of the uniformed services who contribute to this retirement savings plan. TSP is a defined contribution retirement plan, similar to a 401(k), which allows participants to save for their retirement through pre-tax or after-tax contributions. When it comes time to withdraw funds from the TSP, understanding the tax implications is crucial. In this article, we will discuss the tax on TSP withdrawal and answer some frequently asked questions.
The tax on TSP withdrawal depends on several factors, including the type of contributions made to the plan, the age at which withdrawals are taken, and the amount of the withdrawal. Here are some key points to consider:
1. Traditional TSP contributions: Contributions made to the traditional TSP are tax-deferred, meaning they are not subject to income tax at the time of contribution. However, when you withdraw funds from the traditional TSP, they are subject to ordinary income tax.
2. Roth TSP contributions: Roth TSP contributions are made with after-tax dollars, meaning they are already subject to income tax. Qualified withdrawals from the Roth TSP, including both contributions and earnings, are tax-free.
3. Early withdrawals: If you withdraw funds from the TSP before the age of 59 ½, you may be subject to an additional 10% early withdrawal penalty on top of the ordinary income tax. There are some exceptions to this penalty, such as separation from service after age 55 or due to disability.
4. Required Minimum Distributions (RMDs): Once you reach the age of 72 (70 ½ for those born before July 1, 1949), you are required to start taking RMDs from your traditional TSP account. These distributions are subject to ordinary income tax.
5. Lump-sum distributions: If you choose to take a lump-sum distribution from your TSP account, the entire amount will be subject to income tax in the year of withdrawal.
Now, let’s move on to some frequently asked questions about the tax on TSP withdrawal:
1. Will I pay taxes on my TSP withdrawal?
Yes, unless you made after-tax Roth contributions, your TSP withdrawals will be subject to ordinary income tax.
2. How is tax withheld from TSP withdrawals?
By default, the TSP will withhold 20% for federal income tax from your withdrawal. You can adjust this percentage by submitting Form TSP-70.
3. Can I roll over my TSP to an IRA to avoid taxes?
Yes, you can roll over your TSP account to a traditional IRA or a Roth IRA. However, be aware that a rollover to a traditional IRA will still be subject to ordinary income tax upon withdrawal.
4. Are TSP withdrawals taxed at the state level?
Yes, TSP withdrawals are generally subject to state income tax. However, some states do not tax retirement income.
5. Are there any exceptions to the early withdrawal penalty?
Yes, some exceptions include separation from service after age 55, disability, death, and substantially equal periodic payments.
6. How can I minimize taxes on TSP withdrawals?
You can manage your withdrawals strategically, taking into account your other sources of income in retirement, to potentially reduce your tax liability.
7. Is there a limit on the amount of tax I will pay on TSP withdrawals?
The amount of tax you pay depends on your total income, filing status, and deductions. Consult a tax professional to better understand your specific situation.
8. Can I convert my traditional TSP to a Roth TSP to avoid taxes?
Yes, you can convert your traditional TSP balance to a Roth TSP through a Roth conversion. However, the converted amount will be subject to income tax in the year of conversion.
In conclusion, the tax on TSP withdrawal depends on various factors such as contribution type, age, and withdrawal amount. Understanding the tax implications and seeking professional advice can help federal employees and uniformed services members make informed decisions about their TSP withdrawals and plan for their retirement accordingly.