It’s time to dive into volume 3 of our 4-part series covering the topic of transferring funds out of TSP or keeping them in the plan. Allow me to stress again that I am not making a recommendation either way.
By this point you know I’m having some fun and following the Clash song Should I stay or should I go?.
This indecision’s bugging me. If you don’t want me, set me free.~ The Clash, “Should I Stay or Should I Go?”
The TSP most likely wants you to stay. Let’s take a closer look at the 7 points to consider for potentially transferring funds out.
TSP is not the lowest-cost option anymore
This may come as a shock, but it has occurred as a result of a few actions taking place within TSP and within the overall financial services landscape.
TSP has had to spend to improve service and cyber security, and these are good things, but they also lend to increasing costs. For example, TSP expense ratios have increased 109.9% since 2017. Simultaneously the open market in financial services has moved to ever lower fees. The net result as I’ve mentioned before is that major fund families now have index funds with lower expense ratios than the TSP core funds.
In and of itself, is this a reason to move? Maybe not, but I felt it was important to share.
Limited investment options
To be clear, the TSP indexes are broad but not all-inclusive. For example, the I Fund in its current state excludes wide swaths of the world. It follows the MSCI EAFE index which per MSCI includes: Australia, Austria, Belgium, Denmark, Finland, France, Germany, Hong Kong, Ireland, Israel, Italy, Japan, the Netherlands, New Zealand, Norway, Portugal, Singapore, Spain, Sweden, Switzerland and the UK.
I think you can see that a whole lot of the world is missing including Emerging Markets.
TSP always seems to be behind
In our flyover, I gave the examples that in 2023, TSP still has no emerging markets index fund among the core funds as well as not having a true small cap index, but there is one example that I consider to be a significant lag.
The rule permitting 401(k)s to contain a Roth option went into effect on January 1st, 2006. TSP did not add its Roth option until 2012, six years later. I get it, the wheels turn slowly and it takes time, but when you consider that many Feds exceed the income limits for Roth IRAs, not having the Roth TSP option for six years means they missed out on being able to choose this option.
But believe it or not, that is not the biggest delay. TSP went live in 1987 with the G Fund. In January of 1988, the C fund was added (not a big delay), the F Fund was added in 1991 (also not too bad), but the S Fund was not added until 2001: 15 years later. By many measures, the small-cap stock asset class has the highest overall rate of return. Missing out for 15 years was a long time. So how long will it take for emerging markets and the bond indexes that I mentioned? Please do not point to the mutual fund window because the Mutual Fund Window is opaque to non-users and carries additional fees.
Let’s begin with the fees. From the TSP website:
Fees you’ll pay:
- $55 annual administrative fee to ensure that use of the mutual fund window does not indirectly increase TSP administrative expenses for TSP participants who choose not to use the mutual fund window
- $95 annual maintenance fee
- $28.75 per-trade fee
- Other fees and expenses specific to the mutual funds you choose, which you can review in each fund’s prospectus
That last one represents the expense ratio for the individual funds (what I talked about with TSP’s lower expenses). Additionally, you will be capped at 25% of your total balance. If the window is an improvement, why cap participation?
And I consider it to be a big problem that you cannot see the funds in advance. Again, I don’t want to rant, but unable to see the fund options in advance? WHAT?
Withdrawal options are still limited
The TSP Modernization Act of 2017 made substantial improvements to what could only be described as a restrictive set of rules. Now up to 12 withdrawals may be made in a year (if you space them carefully apart) which is substantially better, but I do see some obvious shortfalls here.
Let’s say you are making a withdrawal for some home improvement work, and you request a distribution to start the process. So far so good. Then, your contractor lets you know that he can get a deal on supplies if you buy them in the next 10 days. Good news, right? There is only one problem. You will need to wait 30 days for your next TSP withdrawal.
Maybe I’ve been in the client care side too long, but I cannot imagine telling a client, “Yes, you can have your money but not for another month.” Enough said.
Lastly, I think the pro-rata rule for taking money out of TSP is impractical. What does that mean?
Hypothetically, if you have $ 1,000,000 in your TSP account allocated as follows: $300,000 in the C Fund, $150,000 each in the S Fund and I Fund, and $ 200,000 each in the G and F Funds, this would be 60/40 moderate posture. So far so good. If you then requested a $100,000 withdrawal, it would be taken as follows: $30,000 from C, $15,000 each from S and I, and $20,000 each from G and F.
That makes sense, right? Maybe not. What if the stock market (equity market) is down? Selling the C Fund (equities) at this time might not be in your best interest. Taking the entire distribution from G (or a combination of G and F) would allow you to draw the funds you need and allow the equity funds to recover. Likewise, if the market is flying high, it may be best to take the withdrawal from the equity funds. I truly feel that this is a big and under-discussed issue.
TSP is a no-frills moderately low-cost plan. As such, there is an implied do-it-yourself factor built into it. You may be the rare person with the time and access to build a sophisticated accumulation and distribution plan. If so, good for you.
However, in my experience, a huge number of federal employees find that doing their jobs well and living their lives well consumes 24 hours pretty quickly. Having a trusted contact and relationship can be a powerful advantage in navigating life’s financial challenges.
And please note, I stressed a relationship. This does not mean spending a few hours with someone and then buying an annuity. A good strategy is frequently born of a good relationship.
Customer service can be limited
I reiterate that TSP is in a tough spot. Its ability to generate revenues is limited and expenses keep rising. The organization has had to make big investments to bring cyber security and online access up to date. That does not leave a lot of room for a big complement of customer service representatives.
In addition, one of the top complaints I hear from participants has to do with password issues: “Now I have to wait for my reset information to come in the mail.” I believe that as people transition from working to retirement, the need for access and convenient communication rises. You will want answers and access quickly. The current system seems to be struggling here.
~ The Clash, “Should I Stay or Should I Go?”
So you got to let me know
Should I stay or should I go?
To close out, I want to stress again that I am not making a recommendation to move your money from TSP just as I did not make a recommendation to keep your funds there in my last article. My goal has been to educate and offer an outside perspective to help you navigate these decisions.
That’s all for now. I’ll be back with the final article covering Stay or Go from an advisor’s perspective. I hope the series has been illuminating for you so far.