Federal Employees can be subject to a 10 percent Thrift Savings Plan withdrawal penalties if they wish to access their funds prior to 59 1/2 years old can be subject to a 10 percent penalty. To avoid TSP withdrawal penalties you can exercise various thrift savings plan withdrawal provisions. The date of implementation of the removal of penalty is December 31, 2015 and it was decided post the passage of H.R. 2146.
Feds Can Avoid Paying Thrift Savings Plan Withdrawal Penalties
There are eight key positions that can be used by feds to save themselves from paying a 10 percent penalty on their thrift savings plan withdrawals. The first one includes all the law enforcement officers. Second on the list includes firefighters and the third include border protection officers as well as customs officers. The fourth category includes the air traffic controllers, the fifth includes nuclear materials couriers while the sixth are U.S. Capitol Police. The seventh category includes all the members of supreme court police and finally the DSS Agents of the Department of State. No single person who is not in the aforementioned categories is eligible for the exemption. Even the special category employees who are not serving among the aforementioned positions do not benefit from the H.R. 2146.
When the TSP issued Forms 1099 for the year 2016 tax year, numerous retirees in the aforementioned eight positions got a surprise on the TSP Form 1099 as the 1999s display a distribution code of “1” in the seventh box which indicates early withdrawal with no exception.
This code signifies to the IRS that the withdrawal that was made is subject to 10 percent penalty and the correct distribution codes for the aforementioned eight positions is code “2” which is an early withdrawal – exception applies and indicates that 10 percent penalty is not applicable.
This issue has arisen because the TSP does not possess information in its files regarding whether the participants qualify for one of the eight positions. TSP is now directing the agencies to mark the participants who fall under the eight categories to a designator code “P” while transmitting the employee information to the thrift savings plan.
As thrift savings plan didn’t ask the agencies to designate the code P sooner, it’s the responsibility of a person to ensure that the issue is fixed for the 2016 tax year. It can be done by following any of the two methods listed below.
The Agency Route
In the first option, a person will need to connect with his or her agency to correct the underlying records. The person must request your agency to transmit the “P” code on the thrift savings plan. When it’s done, the person needs to request a new form 1099 that is corrected from the TSP. This method might not be expedient as the tax deadline is April 18th, 2017 and a person might not complete the process via an agency that quickly.
Use Form 5329
The other option and the best one is to file a form 5329 along with the federal tax return. Let us explain this with an example to make things easier. Let’s assume that a person received a Form 1099 from the thrift savings plan for USD 12,000 with the distribution code “1” and the person is serving under one of the eight positions listed above. The person will need to complete Form 5329 by listing the USD 12,000 on line 1 of the form and enter reason code “01” and USD 12,000 on line 2 of the form 5329.
The Form 5329 has different codes that are not similar to the Form 1099 codes. Hence, one should not assume that distribution code “01” on the Form 5329 is same as code”1” on the Form 1099. Form 5239 will tell the IRS that a person’s thrift savings plan contribution was a qualified plan distribution post a separation in service in or after the year that a person turned 50 and was a qualified public safety officer.
As a PSO annuitant, a person’s federal tax return would already contain a statement that a person is a PSO and the letters PSO would already appear on the line 16b of Form 1040 if a person is paying the FEHB premiums via OPM because there is an exclusion of up to USD 3,000 for the premiums paid for FEHB.
In case a person is using TurboTax to prepare the tax return and has provided all the proper information to the software during the interview, TurboTax will prepare a Form 5329 for the person’s return automatically.
It is quite clear that federal employees can save themselves from paying a 10 percent penalty on their thrift savings plan withdrawals by choosing option 2 mentioned in this article. If a person wants to save the penalty on all thrift savings plan withdrawal options, the Form 5329 will be handy as compared to approaching the TSP via one’s agency.