Unique Roth IRA Conversions for Federal Employees

September 23, 2010 7:23 AM
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Did you know that Federal Employees have two unique accounts that can be transferred to a Roth IRA?

Most people know you can convert money from a traditional IRA to a Roth IRA. But Federal Employees may also be able to convert money from their Thrift Savings Plan or CSRS Voluntary Contribution Plan to a Roth IRA.

2010: Special Year for Roth IRA Conversions

Roth IRAs have lots of advantages, but they also have income limits to dictate who can contribute to a Roth or not. In the past, if you made ‘too much money’, you couldn’t put money in a Roth IRA or convert money to a Roth IRA.

But in 2010, the income limitations for converting money from a qualified account (like a traditional IRA) to a Roth have been removed. So if you thought you made ‘too much money’ to have a Roth – 2010 could be a special opportunity for you.

Now, there are still income limits on who can contribute to a Roth IRA. But in 2010, there are no income limits on who can convert money to a Roth IRA. This is where it’s important to understand the nuances of tax rules.

What Accounts Can I Convert into a Roth IRA?

You can convert money from a qualified retirement account to a Roth IRA. In most cases where people talk about moving money to a Roth IRA, they are talking about moving money from a traditional IRA.

But Federal Employees have two unique accounts that may also be transferred: Thrift Savings Plan (TSP) and CSRS employees have the Voluntary Contributions Plan (VCP).

Let’s first take a quick look at the basic process of converting money from a traditional IRA to a Roth IRA. Then we’ll look at TSP and VCP transfers.

Converting Traditional IRA to a Roth IRA

Traditional IRAs are tax-deferred. This means that you don’t pay taxes on the money now, in order to defer them and pay taxes later when you take the money out.

A Roth IRA is different. You pay taxes on the money now, and if you leave it for a certain period of time, you can take the money and its growth out tax-free.

You can choose to convert your entire traditional IRA, or just a portion of it.

If you move money from a traditional IRA to a Roth IRA, you will need to pay taxes when you do the conversion. This is an important factor in deciding how much you want to convert. Make sure you consider the taxes you’ll owe on the conversion before you do anything.

I would say that you shouldn’t do a conversion if you can’t afford to pay the taxes out of your cash flow. If you have to take the money for taxes out of the amount you’re converting – then it generally does not make sense to do a conversion.

Anytime you’re converting, you need to make sure you’re clear about whether the conversion happens as a Transfer or a Rollover.

From Your Thrift Savings Plan to a Roth IRA

Most people know that you can move money from their Thrift Savings Plan account when they leave federal service or retire.

But what if you’re not planning on leaving federal service in 2010?

Not Retiring in 2010?

Did you know there is another way to transfer TSP money to an IRA? It’s called an Age-Based In-Service Withdrawal.

If you are age 59 1/2 or older, you could be eligible do to a one-time move of all or a portion of your TSP money.

There are some quirks about the Age-Based In-Service Withdrawal. For example, you can only take one during your career – that’s it. So if you want to take money out of your TSP to move to a traditional IRA or a Roth IRA, you’ll want to really think about how much money you want to take out. But if you’re thinking about moving your TSP to an IRA at retirement, you might think about moving a portion of it now.

Also, if you do an Age-Based In-Service Withdrawal, TSP says you can not leave your money with TSP after you retire. But many people plan on moving their TSP money at retirement anyways, so this is not a big draw back for them.

However, be sure to think about how this might affect your plans for your TSP money at retirement before doing an Age-Based In-Service Withdrawal. To learn more about what you can do with your TSP at retirement, check out our page reviewing your TSP choices at retirement.

Special CSRS Benefit – Voluntary Contributions Plan (VCP)

CSRS employees have another special benefit – the Voluntary Contributions Plan or VCP. The VCP was designed to allow you to put extra money away to ‘buy’ a larger CSRS pension at retirement.

But there is another way to use the VCP, a way that few people really understand. The VCP is a phenomenal way to stick a large amount away into a Roth IRA – if you know what you’re doing.

You can put a substantial amount into your VCP. The limit is 10% of your CSRS base pay—that you have received over your entire career. Again—It’s 10% of your accumulated pay. So it’s not 10% of your pay per year—it’s 10% of all the CSRS base pay you’ve ever received. For many CSRS this puts their ‘limit’ easily over $100,000.

The VCP is a unique program—and if you’re thinking about using it this way, you must get everything in line before you retire. Read more about the Best Kept Secret in CSRS on our Voluntary Contributions Page.

Reminder About Considerations Before Converting

Remember that just because you can convert money to a Roth IRA doesn’t necessarily mean that you should. Do keep in mind that when you convert money from a tax-deferred account to a Roth IRA, you have to pay taxes on the money now.

There is no limit to how much money you can convert. The only limit, you might say, is how much makes sense for your personal situation.

In this article, we’ve just touched on some of the highlights of moving money to a Roth IRA – be sure to do more research before making any big decisions. You might check out the IRS Pub 590 on IRAs.

I happen to think Roth IRAs are phenomenal planning tools. And there are lots of advantages to having money in a Roth IRA.

Even so – they aren’t for everyone. I have many clients who are taking advantage of the special rules in 2010 to move money into Roth IRAs. But I have other clients where it just didn’t make sense for their personal situation.

Everyone’s financial situation is unique. And you want to be sure it’s right for you before converting any money.

© 2021 Micah Shilanski. All rights reserved. This article may not be reproduced without express written consent from Micah Shilanski.


About the Author

Micah Shilanski is a Certified Financial Planner™ professional who specializes in helping federal employees get the most out of their retirement benefits. Micah helps his clients with tax planning, retirement planning, federal retirement planning, estate planning, and investment advice.

Plan Your Federal Retirement is a dba of Shilanski & Associates, Inc., an Alaska Registered Investment Advisor, with securities offered through Summit Brokerage Services, Inc., Member FINRA/SIPC.