Avoiding the Roth Tax Trap
According to an announcement by the Thrift Savings Board, there is a future update to the Thrift Savings Plan’s Roth option that will reduce the tax bill for federal workers. This will make the Roth option more attractive to them, especially for those under 59 ½ years of age who are going to separate and take money out of their TSP account.
It won’t be long before accountholders can choose the amount that they want taken out of their Roth account and regular account. There are proportionate withdrawals allowed right now and there are tax penalties for anyone under 59 ½ years of age who initiates a withdrawal. Any amount withdrawn from the Roth account is considered regular income and gets taxed as such.
This latest update is crucial to someone retiring before they’ve turned 59 ½ years of age, such as firefighters and law enforcement officers. Their Roth earnings will no longer be taxed and there won’t be any delays for them to gain access to their TSP before they’re 59 ½ years of age. Anyone older than 59 ½ years of age who separates from their federal job won’t have to worry about this update.
Another part of the update gives workers the freedom to choose how much of their Roth account and their regular account goes toward their withdrawals. These amounts of the withdrawal are proportional from each source.
The board is already moving quickly to make these updates to the TSP, like for the new withdrawal options of the recently signed TSP Modernization Act.
There is a provision of IRA which states that all withdrawals from Roth are deemed to be from contributions first and then earnings. However, this is not the case retirement plans sponsored by the employer, such as the TSP.
In addition, the update for the withdrawal is not related to the penalty for early withdrawal that workers under 55 years of age must face if they start making TSP withdrawals.