Many federal employees who are getting close to their retirement date or who are

contemplating leaving federal service face the question of what to do with their

Thrift Savings Plan (TSP) accounts.

One withdrawal option is to rollover or to transfer their TSP accounts to a

traditional IRA. The question is: Does a rollover or a transfer of the TSP to a

traditional IRA make good financial sense? This column discusses the advantages

and disadvantages of a TSP rollover to a traditional IRA.

One fact is for certain, namely: there is no lack of companies in the

financial services industry - this includes banks, credit unions, insurance

companies, and broker dealers - that are waiting for the opportunity to rollover

or transfer employee TSP, 401(k) or 403(b) company retirement plans. According

to the Investment Company Institute, more than 50 million employees in public

service and in private practice hold $3 trillion in retirement plans that can

potentially be rolled over to financial service company-directed rollover IRAs.

For these companies, millions of employees could turn over their retirement

accounts resulting in billions of investment dollars and thousands - perhaps

millions of dollars - in commission income. Some discount brokerages are

offering a $500 bonus to individuals who rollover their retirement plans to

their brokerage.

In spite of any monetary incentives for rolling over their TSP accounts,

federal annuitants and employees need to consider the advantages and

disadvantages of TSP rollovers to a traditional IRA before embarking on such a

significant investment decision for their retirement.

First, consider the potential advantages of a TSP rollover:

• The TSP offers a limited number of investment choices. The five TSP funds -

the C, S, I, F and G funds - while a fairly broad-based choice of stock and bond

funds - are still somewhat limited in overall diversification. By rolling over

the TSP to a self-directed IRA, the TSP account owner will have more investment

options and be able to potentially diversify their portfolio.

• There are more withdrawal options and flexibility in withdrawing money with

a traditional IRA compared to the TSP withdrawal options. For example, many IRAs

allow their IRA owners to withdraw the money as needed in a "non-systematic"

manner. On the other hand, the TSP has a set number of ways in which monies may

be withdrawn from a TSP account.

•  Having all of one's retirement accounts in a single IRA - this

includes one's TSP, monies from a 401(k) retirement plan or a 403(b)tax

sheltered annuity - make it easier to monitor one's investments, set appropriate

asset allocations, and rebalance the account as needed. It is also easier to

handle minimum required distribution after the TSP account owner becomes age

70.5. With traditional IRAs, one's required minimum distribution (RMD) is based

on the total amount in all one's IRAs. If a retiree also has a TSP account, a

401(k) retirement plan, and/or a 403(b) tax-shelter annuity account at age 70.5

and later, then the retiree must calculate the RMD separately and take the money

from each type of account.

• An IRA has estate planning opportunities, especially with respect to

non-spousal beneficiaries such as children. A child who inherits an IRA can take

tax-deferred distributions spread over his or her lifetime. While the TSP allows

non-spousal beneficiaries to rollover their inherited TSP accounts to an

inherited IRA which will allow beneficiaries to receive lifetime income from

their inherited IRAs, TSP rollovers to "inherited IRAs" can be tricky. A TSP

account owner could therefore best off handling the transfer from the TSP to

their own "rollover" IRA himself or herself rather than leaving it up to his or

her heirs to handle an inherited TSP account rollover to an inherited IRA.

Now consider the advantages of not rolling over a TSP and instead

keeping the money in the TSP account, at least initially:

• There is no 10 percent early withdrawal penalty for TSP withdrawals for

account owners who left or retired from federal service in the year of and after

the account owner became age 55. If the TSP account owner rolls over TSP money

to a traditional IRA, then the account owner must be 59.5 years or older to

withdraw the IRA account without being subject to a 10 percent early withdrawal

penalty. Keep in mind that this is not an "all or none" proposition. The TSP

allows account owners to leave some of their monies in the TSP while moving the

rest to a rollover IRA. This could leave sufficient funds in the TSP to cover

expenses or possible emergencies until age 59.5, while moving the remaining TSP

fund to a rollover IRA.

• Protection from creditors. Those TSP account owners who have credit

problems should consider keeping their TSP accounts and not roll them over to an

IRA. That is because creditors in bankruptcy proceedings and plaintiffs in civil

lawsuits cannot touch the TSP. IRA have limited protection and these limitations

vary from state to state.

• An individual who is still a federal employee at age 70.5 does not have a

RMD for the TSP. Those federal employees who work past age 70.5 are not required

to take the annual RMD from their TSP. An IRA owner must start taking RMDs

starting at age 70.5 and every year thereafter, whether the IRA owner is working

or not.

• Non-spousal beneficiaries can transfer their inherited TSP assets to a Roth

IRA (and paying the taxes due on the transfer). On the other hand, if a TSP

account owner rolls over the TSP account to an inherited traditional IRA, then a

non-spouse beneficiary cannot convert the inherited traditional IRA to a Roth

IRA.

Another important factor in deciding whether or not to make a rollover is

comparing TSP expenses versus the expenses of a traditional IRA. This may be a

difficult task because an IRA's administrative and record-keeping fees are not

listed on individual investment statements. One way to compare costs is to

compare fund expenses, usually expressed as the "expense ratio", of the TSP to

the fund expenses of an IRA invested in a mutual fund. An "expense ratio" is

determined through an annual calculation in which a fund's operating expenses

are divided by the average dollar value of its assets under management.

Operating expenses are taken out of a fund's assets and lower the return to a

fund's investors. The expense ratio of a mutual fund's various funds should be

listed on the fund's Web site. A fund expense ratio of one percent or less is

desirable. The TSP expense ratios for the C, S, I, F and G funds have averaged

less than 0.06 percent over the last 20 years, most probably the lowest expenses

in the investment industry. Another potential cost to TSP account owners who

transfer their accounts through a financial service or investment company -

commissions. The TSP does not charge commissions when employees contribute to

the TSP. On the other hand, a transfer through a licensed broker to a 

mutual fund will most likely result in the TSP account owner paying a commission

to the broker.   

Finally, when moving money from the TSP to a rollover traditional IRA, TSP

account owners should be sure to follow the strict IRS rules governing

rollovers. The TSP will only send TSP money to a traditional IRA that has been

previously established with an IRA custodian. The money should be sent

"directly" - meaning a direct transfer - from the TSP to the IRA. If, on the

other hand, the TSP sends a check made out to the TSP account owner in his or

her name, it is considered a taxable distribution and the TSP must withhold 20

percent in federal income taxes. The TSP account owner must then come up with

the 20 percent withheld and, within 60 days, send the entire withdrawn amount

from the TSP to the IRA. If the 60 day deadline is missed; then the IRS will tax

the entire withdrawn amount, thereby losing the chance for additional

tax-deferred growth.

About the Author

Edward A. Zurndorfer is a Certified Financial Planner, Registered Health

Underwriter, Registered Employee Benefits Consultant and Enrolled Agent in

Silver Spring, MD and the owner of EZ Accounting and Financial Services, an

accounting, tax preparation and financial planning firm also located in Silver

Spring, MD.  He is an instructor at federal employee retirement

seminars throughout the country for the National Institute of Transition

Planning, Inc. and writes numerous columns and books on federal employee

benefits.

Posted:  06/28/2010