Before you decide on how you will receive the money in your Thrift Savings

Plan (TSP) account, you should review these three important tax

considerations.   Understanding the tax treatment of TSP payments can

help you avoid costly surprises.

[Editor's note: to access resources and forms mentioned in this article, please refer to the "Resources" section at the end of the article.]

1. Federal Income Tax

Withholding

Your contributions to the TSP were tax-deferred. This means you have not yet

paid taxes on your contributions, any agency contributions, or earnings.

Instead, you will owe taxes when you receive a payment (dis­tribution) from

your account. The TSP reports all TSP distributions to the Internal Revenue

Service (IRS), and to you, on IRS Form 1099-R, Distributions From Pensions,

An­nuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts,

etc.

The TSP must withhold for federal income tax from payments

they make to you unless you are allowed to request reduced or no

with­holding. For purposes of IRS withholding, there are three types of

payments:

1. eligible rollover distributions,

2. periodic payments,

3. and non-periodic payments.

This href="http://www.myfederalretirement.com/public/TSP-Tax-octax92-92-page2-chart.pdf"

target=_blank>chart (href="http://www.myfederalretirement.com/public/TSP-Tax-octax92-92-page2-chart.pdf"

target=_blank>click here to download) describes the withholding rates

and the rules that apply to each type of TSP payment. If you are eligible to

change the standard withholding elections (for example, to fully cover your tax

liability), you must file IRS Form W-4P, Withhold­ing Certificate for

Pension or Annuity Pay­ments, with your withdrawal request.

Note that if you elect a "mixed withdrawal" (e.g., an annuity and a single

payment), each type of distribution is treated separately and may be subject to

different tax with­holding rules.  

The TSP does not withhold for state or local income tax. However, they do

report, on IRS Form 1099-R, all TSP distributions to your state of residence at

the time of the payment (if that state has an income tax). You may need to pay

state and local income taxes on your payment. See a tax advisor or state or

local tax officials for specific information.

Special note regarding annuities:  Payments you receive

from an annuity that the TSP purchases for you are also subject to tax

with­holding. You will receive information from the annuity provider about

making a with­holding election.

2. Transferring or Rolling Over

Your TSP Distribution

Some payments from the TSP may be trans­ferred or rolled over to a

traditional individ­ual retirement account (IRA), an eligible employer plan,

or a Roth IRA. Such payments, called "eligible rollover distributions," are

identified on the href="http://www.myfederalretirement.com/public/TSP-Tax-octax92-92-page2-chart.pdf"

target=_blank>chart.

An eligible employer plan includes a plan qualified under

section 401(a) of the Internal Revenue Code, such as a section 401(k) plan,

profit-sharing plan, defined benefit plan, stock bonus plan, and money purchase

plan; a section 403(a) annuity plan; a section 403(b) tax- sheltered annuity;

and a section 457(b) plan maintained by a governmental employer.

A traditional IRA is any IRA that is not a Roth IRA, a

SIMPLE IRA, or an education IRA. Before-tax money that is transferred from the

TSP to a traditional IRA is not subject to tax until it is withdrawn from the

IRA.

A Roth IRA accepts only after-tax dollars, but provides

tax-free growth. You are not eligible for a Roth transfer if either of the

following conditions applies: (1) your modi­fied adjusted gross income is

over $100,000 or (2) you are married and file a separate return. Further, you

must pay taxes on the funds you transfer to a Roth IRA; the tax liability is

incurred for the year of the transfer.

No IRA or eligible employer plan is required to accept a transfer or

rollover. Before you decide to transfer or roll over your TSP account, you

should find out whether your IRA or plan accepts transfers or rollovers, whether

the IRA or plan has a minimum amount it will accept, and, in the case of a Roth

IRA, whether you are eligible to make the transfer.

If your payment is an eligible rollover distribution, you may ask the TSP to

transfer part or all of the payment directly to your IRA or plan. If you receive

an eligible rollover distribution directly, you may deposit (roll over) the

payment into your traditional IRA, eligible employer plan, or Roth IRA yourself.

Depending on the type of plan, a withdrawal from it may be subject to different

tax treatment and plan rules (such as different spousal consent rules) than a

distribution from the TSP. 

If you choose to have the TSP transfer part or all of your

eligible rollover distribution:

• Your transfer to a traditional IRA or eligible em­ployer plan will not

  be taxed in the current year and no income tax will be withheld. Your

  pay­ment will be taxed when you withdraw it from the traditional IRA or the

  eligible plan.

• The entire amount of your transfer to a Roth IRA will be taxed in the

  current year. No income tax will be withheld at the time of the transfer. (You

  may need to pay estimated taxes to mitigate your tax liability.)

If you are over age 70-1/2 and a portion of your

• payment is a required minimum distribution, that portion cannot be

  transferred. Instead, it will be paid directly to you after 10% has been

  deducted for federal income tax withholding. This rule also applies if you are

  receiving monthly payments and elect to receive a final single payment

  thatincludes a required minimum distribution.

If the TSP pays an eligible rollover distribution directly

to you, and you decide to do a "rollover" to a

tradi­tional IRA or eligible employer plan:

• You will receive only 80% of the taxable amount of the payment, because the TSP is are required to with­hold 20% for Federal income tax.

• Your full payment will be taxed in the current year unless you roll over

  part or all of it within 60 days after you receive the payment.

• You can roll over all or part of the payment to your traditional IRA or

  plan. The amount rolled over will not be taxed until you take it out of the IRA

  or plan. However, if you want to roll over 100% of the payment, you must replace

  the 20% that was withheld with your own funds. If you roll over only the portion

  you received, you will be taxed on the 20% that was withheld and not rolled

  over.

You may be able to roll over your payment into a Roth IRA; the full amount

rolled over will be taxed in the current year.

3. Other Tax Rules

Repayment of plan loans

If you separate from federal service with an outstanding TSP loan and you do

not repay the entire loan by the es­tablished deadline, the TSP must declare a

taxable distribution of your outstanding loan balance before we can process your

withdrawal request.

To avoid current tax (and, if applicable, an additional 10% penalty tax) you

may de­posit part or all of the taxable loan distribution amount into an IRA

or an eligible employer plan -- using your personal funds - within 60 days of

the date of the tax­able able distribution. 

This rollover rule does not apply to taxable loan distri­butions declared

while you are still employed.

Additional 10% penalty tax if you are under age

59-1/2

If you receive a TSP distribution before you reach age 59-1/2, in addition to

the regular income tax, you may have to pay an early withdrawal penalty tax

equal to 10% of any portion of the distribution not transferred or rolled over.

The additional 10% tax generally does not apply to payments that are:

• Paid after you separate from service during or after the year you reach age

  55;

• Made because you are totally and permanently disabled;*

• Paid as substantially equal payments over your life expectancy;

• Annuity payments;

• Ordered by a domestic relations court;

• Made because of death; or

• Made in a year you have deductible medical expens­es that exceed 7.5% of

  your adjusted gross income.*

Special note for members of the uniformed services: The

penalty tax does not apply to that portion of a TSP distribution (including the

taxable distribution of a loan) which represents tax-exempt contributions from

pay earned in a combat zone.

Relief from the 10% early withdrawal penalty is avail­able to eligible

Reservists called to duty for more than 179 days. The Reservist must have been

activated after September 11, 2001 and must have received his

or her distribution from the TSP during the period beginning on the date of the

order or call and ending at the close of the active duty period. The Reservist

may also be eli­gible to repay the distribution to an IRA (not the TSP).

Participants should consult with their tax advisors, legal assistance officers,

or the IRS regarding this relief.

Changing your monthly payments

Participants receiving monthly payments may change the amount annually. If

you elect either to change the fixed dollar amount of your payments or to change

from pay­ments based on life expectancy to a fixed dollar amount, the

withholding from your payment may change. The withholding rules will be

determined according to whether your new payments are eligible rollover

distributions or periodic payments (based on your account balance at the time

the payment changes).

In addition, changing from monthly payments based on life expectancy to a

fixed monthly payment amount may make you liable for the 10% penalty tax on the

payments you previously received, if you do so within 5 years of beginning your

payments or before you are age 59-1/2. To learn more, see IRS Publication 575,

Pen­sion and Annuity Income  available at href="http://www.IRS.gov">www.IRS.gov.

Required minimum distribution if you are over

70-1/2

If you are over age 70-1/2 and are separated from federal service, you must

either withdraw your entire TSP ac­count or begin receiving monthly payments

by April 1 of the year following the year you turned 701/2. In addition, this

April 1 date is the deadline for the TSP to start to distribute the IRS

"required minimum distribution," a minimum amount of the money in your account

which you must receive each year. For more information, see the TSP tax notice

"Important Tax Information About Your TSP Withdrawal and Required Minimum

Distributions." For exceptions to this rule (for 2009 only), go to: http://www.tsp.gov/curinfo/login/pension-bill-rmd_ltr.pdf

Special tax treatment if you were born before

January 2, 1936

If you were born before January 2, 1936, and you receive your entire account

in a lump sum distribution, you can make a one-time election to calculate the

amount of the tax on the distribution by using the 10-year tax option and using

1986 tax rates. The 10-year tax option often reduces the tax you owe. To learn

more, see IRS Publica­tion 575, Pension and Annuity Income.

Rules for nonresident aliens or beneficiaries of

nonresident aliens

Special tax withholding rules apply to TSP payments made to nonresident

aliens and beneficiaries of nonresi­dent aliens. To learn more, see the TSP

tax notice "Tax Treatment of Thrift Savings Plan Payments to Nonresi­dent

Aliens and Their Beneficiaries."

Resources

TSP publications are available from the TSP web site at href="http://www.tsp.gov/">http://www.tsp.gov or from the TSP by calling the

TSP toll free at 1-877-968-3778 (TDD: 1-877-847-4385). Outside the U.S. and

Canada, please call 404-233-4400 (not toll free). You can also send a fax to

1-866-817-5023 or write to the TSP at the address on the TSP Web site.

IRS publications are available from your local IRS of­fice, on the IRS

Web site at href="http://www.irs.gov/">www.irs.gov, or by calling

1-800-TAX-FORMS.

* The TSP cannot certify to the IRS that

you meet these exemption re­quirements when your taxes are reported.

Therefore, you must provide the justification to the IRS when you file your

taxes. 

Source: TSP-536

(10/2008)