Retirement Planning is hard.
Why do you think corporations and governments alike have reduced or eliminated pensions all-together? It’s because even the professionals found it incredibly daunting to be held accountable for providing someone a guaranteed 30 years of inflation-adjusted income!
Nowadays, rather than shouldering the responsibility for providing Federal Retirees with safe passage all the way through the Retirement Jungle (like they did for CSRS retirees), Uncle Sam is providing FERS employees with a treasure map and a compass. The treasure is still there, as this is still one of the best large-scale benefit programs around, but Feds now have to reach certain coordinates on the map throughout their career in order to locate the FERS retirement treasure.
Just in case you thought that was still too sweet of a deal, the map revealing the FERS retirement treasure is written in the government language of abbreviations and acronyms, one that very few jungle guides (Retirement Planners) can understand – much less properly explain and coordinate. This is why the first point is a critical one…
Coordinate Number 1: Coordinate your Retirement Plan with a Federally Focused Retirement Planner
Simply put this means find your guide before you start packing to head off into the jungle. Find a trusted expert early, tell them where on the map you want to get to, and let them help plot the best course far ahead of time.
The number one exasperated question from Feds in my Retirement Workshops is, “Where were you 15 years ago!?!” Finding a jungle guide early will allow you to lean on that professional’s expertise to help coordinate the remaining critical steps as efficiently as possible.
Make sure to confirm that the advisor you sit down with is knowledgeable on your specific retirement system. If they don’t understand the basic systems, their differences, or the key acronyms then, while they may be great at private sector planning, they may not be suited to build a true Holistic Retirement Plan for you as a Federal Employee!
Look, assembling Ikea furniture is a DIY project, adding rhododendrons to the garden is a DIY project, but with Retirement Planning (as well as with jungle exploration) there is simply too much at stake to attempt it doing it alone. Don’t settle when selecting a guide either, the FERS system has many intertwining benefits that need to be coordinated properly.
Coordinate Number 2: Coordinate Tax Bracket Now vs Tax Bracket in Retirement
Traditional retirement planning has always preached, “Defer taxes while working so that you can pull money from your 401(k)/TSP in retirement when you are in a lower tax bracket.” This approach begs a question about your retirement goals: is your goal to maintain your current lifestyle into retirement or to lower your tax bracket?
Think about it. There are only so many ways to enter a lower tax bracket. You can utilize tax deductions (the largest of which are for Dependents and Mortgages), you can utilize income-tax-free investment vehicles (such as Roth IRAs and Permanent Life Insurance), or you can simply receive less household income.
For many Federal Employees, especially those that work with a jungle guide, they find that they will maintain a large enough portion of their income that they would never actually realize the tax “relief” that the traditional approach had led them to anticipate. Not only is each stream of the average FERS retiree’s income taxable (FERS pension, Traditional TSP, and a large portion of Social Security) but additionally Federal Retirees have often lost their biggest tax deductions when the kids moved out and they finally paid the house off.
Also, you must keep in mind that we are currently in historically low tax brackets with an unfathomably high National Debt. Where do you see taxes going over the 20-30 years of your retirement? It is critical that you coordinate your beliefs and your assets!
Coordinate Number 3: Coordinate your Roth TSP with a Roth IRA
One key option for mitigating tax risk that is available to all Feds – regardless of health, age, or income – is the Roth TSP. Once satisfying (the longer of) the 5-year wait or until age 59.5 requirements, funds withdrawn from a Roth account can be accessed 100% tax free. Since contributions are made after tax, you can always pull your original contribution (basis) back out tax-free. The rules apply to the special taxation of the gains.
Many Feds believe that they do not get a Government match on contributions to the Roth TSP or that they cannot have a Roth TSP and a Roth IRA at the same time! You do still get the 5% (but the match always goes into the Traditional TSP bucket), you can have both, and you can even fund them simultaneously! Roth IRA and Roth TSP contribution limits are calculated independently of one another, meaning you could contribute the full $18,000 (+$6,000 more if over 50 via Catch Up contributions) to the Roth TSP AND contribute the full $5,500 (+$1,000 more if over 50) to a Roth IRA.
There are no earnings limits on Roth TSP contributions, meaning you can contribute no matter what your household earns! But there is a major caveat: the TSP does not allow you to control whether you withdraw taxable funds (from your Traditional TSP) or tax-free funds (from your Roth TSP), they make you pull proportionately from each bucket for any/all distributions (following the “Pro-rata” approach).
The goal in creating tax diversity is to control the tax treatment of distributions. Since the TSP doesn’t allow for this, upon retiring, most Feds will split their TSP into a Traditional IRA and a Roth IRA. Done properly, this is not a taxable event, but one that gives Federal retirees the ability to control the taxation of their income based on which IRA they withdraw funds from (in addition to many other benefits).
The problem arises when someone is uninformed. If they wait until retirement to open a Roth IRA and then dump their Roth TSP into it, the 5-year or age 59.5 wait period is reset for any and all funds within the IRA (even if the Roth TSP funds had already satisfied the wait period!).
Conversely, if you open a Roth IRA that satisfies the requirements before retirement, you could dump the max $24,000 into your Roth TSP on the last day of your employment, roll those funds into the Roth IRA on your first day of retirement, and have tax-free access to all of it immediately. The entirety of the funds (basis plus gains) follow the rules of the last account they enter, so the Roth IRA already satisfied the rules for all of the funds within it. So if taxes are a concern, work with your jungle guide to coordinate a Roth IRA with your Roth TSP!
Each of the 10 Critical Coordinates we will be discussing in this series could be a stand-alone article, so in an effort to thwart information overload while still providing the necessary insight, stay tuned for Critical Coordinates 4-7 in part 2!
