Contributions to the TSP are generally tax-deferred. This means the participant did not pay taxes on his or her own contributions, any agency contributions, or earnings. As a consequence, you will owe taxes when you receive a death benefit payment from a TSP 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 it makes unless the IRS allows the beneficiary to request that there be no with¬holding. The federal income tax withholding and transfer and rollover rules that apply to a death benefit payment depend upon whether the payment is made to the surviving spouse or to someone else.

This chart (Click here to download 1 page PDF) applies to payments made after January 1, 2010. It describes the withholding rates and indicates whether you can change or waive the withholding amount. If you want to change the standard withholding, you must file IRS Form W-4P, Withholding Certificate for Pension or Annuity Payments, with the TSP before the death benefit payment is disbursed.

The TSP does not withhold for state or local income tax. However, on IRS Form 1 099-R, the TSP does report 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 tax on your payment. Your tax advisor or state or local tax officials can explain any potential tax obligations.

Transferring or Rolling Over a Payment

Your options for transferring or rolling over a TSP death benefit payment depend upon whether you are the surviving spouse of the deceased participant or a beneficiary other than the surviving spouse.

If you are the surviving spouse, you may be able to ask the TSP to transfer all or a portion of your payment to a traditional individual retirement account (IRA), eligible employer plan, or Roth IRA. If you receive the payment directly, you may be able to deposit (roll over) the pay¬ment into a traditional IRA, eligible employer plan, or Roth IRA yourself.

A traditional IRA is any IRA that is not a Roth IRA, a SIMPLE IRA, or an education IRA.

An eligible employer plan includes a plan quali¬fied under section 401(a) of the Internal Revenue Code (I.R.C.), such as a section 40 1(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-shel¬tered annuity; a section 457(b) plan maintained by a governmental employer; and the TSP.

A Roth IRA accepts only after-tax dollars, but provides tax-free growth. You are not eligible for a Roth transfer if either one 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.

Before you decide to transfer or roll over your payment, you should find out whether your IRA or plan accepts transfers or rollovers and whether the IRA or plan has a minimum amount it will accept. You should also familiarize yourself with the plan or IRA. The tax treatment and plan rules for withdrawals from the plan to which you transfer or roll over the distribution may be different from those of the TSP.

If you are a surviving spouse and you have your own TSP account, you may roll over --- or ask the TSP to transfer --- the death benefit payment into your TSP account.

If you choose to have the TSP transfer all or part of the death benefit payment:

• No income tax will be withheld at time of transfer.
• If your transfer is to a traditional IRA or eligible em¬ployer plan, it will be taxed at the time you withdraw it from that IRA or plan.
• If your transfer is to a Roth IRA, the entire amount will be taxed for the year of the transfer. You may need to pay estimated taxes to mitigate your tax liability.

If the TSP pays a death benefit payment directly to you, and you subsequently 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 we are required to withhold 20% for Federal income tax.
• Your full payment will be taxed in the current year if you do not complete the rollover within 60 days of receiving the payment from the TSP.
• You can roll over all or part of the payment to your tra¬ditional 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.

If you are a beneficiary other than the surviving spouse, you may be able to request that the TSP transfer all or part of your death benefit payment directly to an "inherited" IRA. The I.R.C. allows individuals and, in some cases, trusts (but not estates) to transfer death benefits to an inherited IRA. A trust must satisfy the conditions specified in Treas. Reg. § 1.401(a) (9)-4, Q&A 5. An inherited IRA is an IRA established specifi¬cally for the purpose of transferring money inherited from a plan such as the TSP. Inherited IRAs may provide significant tax benefits since the required distribution for the IRA can generally be spread across the lifetime of the beneficiary. How¬ever, the rules governing inherited IRAs are complicated, and there are restrictions. So before you make a decision to transfer money from the TSP to such an IRA, we strongly recommend that you discuss the details of your transfer with your tax advi¬sor or your IRA provider. You may not roll over a TSP death benefit paid directly to you into any type of IRA or plan.

If you choose to have the TSP transfer all or part of the pay¬ment to an inherited IRA:

• Your transfer 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 inherited IRA.
• The tax treatment and plan rules for withdrawals from the inherited IRA to which you transfer the distribu¬tion may be different from those of the TSP.

Ten-Year Tax Option

If the participant was born before January 2, 1936, you may be eligible to calculate the amount of the tax on the death benefit payment by using the 10-year tax option, which will often reduce the tax you owe. To learn more, see IRS Publica¬tion 575, Pension and Annuity Income, and IRS Form 4972, Tax on Lump Sum Distributions.

Rules for Nonresident Aliens and Their Beneficiaries

Special tax withholding rules apply to payments the TSP makes to nonresident aliens and beneficiaries of nonresident aliens. See the TSP tax notice "Tax Treatment of Thrift Savings Plan Payments to Nonresident Aliens and Their Beneficiaries."

Resources

Thrift Savings Plan publications are available from the TSP website, at 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 website.

Internal Revenue Service publications are available from your local IRS office, on the IRS website at http;//www.irs.gov, or by calling 1-800-TAX-FORM.

Source: TSP-583 (11/2009)

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