We have recently published two articles regarding the number of federal employees who have closed their Thrift Savings Plan (TSP) accounts upon retiring or otherwise leaving the federal service. (The most recent article: Rolling Over Your TSP: What You Should Consider Before Taking Action)
One primary advantage of the existing Thrift Savings Plan is the very low cost. Wall Street Journal columnist Jason Zweig described the TSP expenses in this way: “The TSP funds are dirt cheap. The average U.S. stock index fund charges 0.59% in annual expenses, or $59 per $10,000 invested. The TSP funds charge just 0.025%, or $2.50 per $10,000–less than one-20th the cost.”
Why People Withdraw Money from the TSP
But, despite the low investment cost of these funds and the enviable track record of the TSP funds in providing returns on investment, some TSP investors have elected to withdraw their money. As noted by the TSP in the document below, “45% of participants who separated from service in 2012 withdrew all TSP funds and closed their accounts by the end of 2013. In 2013, these withdrawals caused nearly $10 billion to leave the TSP, with almost 72% of that amount being transferred to another financial institution or employer plan.”
According to research by the Federal Retirement Thrift Investment Board (FRTIB), the primary reason for withdrawing their money was to pay for a major expense. Interest in additional investment options was cited as one of the top reason by 23% of those responding to the TSP survey. Comments from FedSmith readers support this finding of the TSP survey as some readers chafe at their inability to invest in a wider range of investments such as real estate, precious metals, emerging markets and socially responsible funds.
Changing the TSP to Combat Withdrawals
The FRTIB wants to provide more incentive for TSP investors to stay invested in the Thrift Savings Plan. One of the options under consideration is what the TSP refers to as a mutual fund window (MFW).
Currently, the TSP has five core investment funds and five Lifecycle funds. The annual rate of return for each of these funds is available at TSPDataCenter.com.
A law that was signed in June of 2009 gave the FRTIB the authority to begin offering access to mutual funds through the mutual fund window.
There are, of course, issues related to offering more investment opportunities for TSP investors. One of the primary issues is the cost of adding new investment options. As noted in the memo on this issue “It is virtually impossible for funds in the MFW to match the low costs provided by the TSP’s core funds. While cost must certainly be a factor…the Board is not prohibited from approving the creation of a MFW which will enable access to funds with higher expense ratios….”
The FRTIB estimates that making the required systems modifications to start the MFW will be in the range of $6 – $10 million. Once it is up and running, the maintenance costs will be about $1 million per year. The actual cost could be higher as their are other potential requirements to be met that have not been estimated.
The reasons given for moving forward with the steps for setting up a mutual fund window are:
- This system is responsive to customer demand;
- It would allow TSP participants to invest according to their “conscience” as funds supporting a variety of social, environmental and political goals will be available;
- It would allow more sophisticated investors the ability to diversify with a variety of new funds;
- It protects the simplicity of the TSP by reducing the risk of a legislative effort to force additional funds into the TSP’s core funds;
- The system would have a positive impact on account and asset retention and all participants would benefit through a lower cost structure.
While there would be costs to be paid by those participants that choose to purchase mutual funds available through such a system, all TSP investors would pay for creating and implementing this new system. So, while adding new investment options would make some TSP investors more satisfied with the system, other investors who are quite happy with the options and the very low cost of the existing system will not like the possibility of paying any additional expense for adding a new structure of investments to the current TSP offerings.
There is also the “law of unintended consequences.” The Thrift Savings Plan is a large investment organization. If the MFW goes into effect, there is likely to be around $500 billion or so when the new system goes into effect. As currently constructed, the TSP investments are not controversial. They are largely index funds that provide a good rate of return for a small fee.
Introducing new funds will undoubtedly confuse some employees—some of whom now have trouble deciding how to invest in the limited options available. Adding new options will create more confusion from investors who will be reluctant to invest based on lack of knowledge or just being indecisive. As the system becomes more complex and more confusing, the new system will create opportunities for companies or financial investment advisers who will provide advice on how to invest successfully in the TSP. (See Commercial Financial Advice on TSP Investing)
Involving federal employee investments into funds that offer “a variety of social, environmental and political goals” may also create political conflict. Some in Congress were already seeking to invest TSP funds into socially responsible arenas such as creating new opportunities for minority investment firms, preventing genocide in African countries or setting up a Socially Responsible Stock Index Fund in the TSP. While proposals are often couched in ways that sound above reproach, political or monetary goals of politicians are often lurking just beneath the surface.
We do not know how or if political considerations would come into play. But the combination of a large amount of money from investments by federal employees, using the money for meeting “social, environmental and political goals” and the disreputable record of of politicians of using other people’s money to meet their political agenda can be an attractive combination for political and social disputes.
It appears that there is a good chance that the MFW will become a reality although, at the earliest, not until 2016. If it is implemented, as seems likely, the TSP will still be a low cost investment option for employees eligible to invest but with more options available.