Q: I will have 30 years of service when I turn 56 years old. I am currently 49 years old. I have money both in the regular TSP and also have started investing in the Roth TSP. To avoid penalties, the Roth TSP says I can’t take money from it until I am 59 1/2 years old, but the regular TSP says I can take money when I am 56 years old. It is my understanding that if I retire at 56 and start take money out of my regular TSP, I also have to take money out of the Roth TSP (they are tied together and can’t be separated when it comes time to withdraw at retirement).
Will I get penalized for being only 56 and taking money out of the Roth TSP when I am eligible to take money out of the regular TSP? This seems like a catch-22 and will force me to work 3 more years or wait until I’m 59 1/2 to withdraw money from TSP. Thanks for your help. I love reading your advice.
A: The rules on the Roth option of the TSP are confusing. You will not be “penalized” if you take money out of your Roth balance before 59 1/2, however, you will have to pay federal income tax on the earnings in your Roth balance because your withdrawals will not be considered “qualified” for tax purposes. For Roth withdrawals to be considered qualified (and therefore tax-free), you must have had your Roth TSP for at least 5 years and be at least 59 1/2. It sure feels like a penalty, though it is technically not one.
If you retire at 56 and begin taking TSP withdrawals, your Roth withdrawals will have the portion of them that represents earnings taxed until you reach 59 1/2. You are absolutely correct that TSP withdrawals be “proportional”, meaning that anything you take from the TSP will be taken out of both Traditional and Roth balances based on the percentage of your total TSP balance that they both represent. One option available to you is that of not accessing your TSP until 59 1/2, taking income from other sources like taxable accounts until you reach 59 1/2.
You are also allowed to split a partial or full rollover from the TSP. In other words, you could roll your Traditional balance to a Traditional IRA, and your Roth balance to a Roth IRA. Of course, this action creates another problem; anything you take out of a Traditional IRA before the age of 59 1/2 will be subject to an early withdrawal penalty of 10%. You can avoid this penalty by taking substantially equal periodic payments from your Traditional IRA for the longer of 5 years or until you reach 59 1/2. As the longer of these would be 5 years in your case, you would have to keep on taking those substantially equal payments until age 61, or be subject to the penalty for everything you had taken out up until that time.
Some employees who plan to retire before 59 1/2, such as yourself, have stopped contributing to the Roth TSP and contributed only to the Traditional TSP so that their Roth balance would make up a smaller proportion of their TSP withdrawals once they have retired. Many of them who still want the advantages of a Roth account will open up an outside Roth IRA if their income allows them to do so.
You referred to “catch-22” in your question. With rules this confusing, maybe we should call it “catch-33”.