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Roadblocks to TSP participation
Federal employees need to have a basic understanding of their retirement benefits from day one on the job.
Once when I asked a young friend who had just started her first job after college graduation why she decided not to contribute to her company's 401(k) plan, she told me that she didn't think she was going to stay at this job very long so she didn't think it would make sense to contribute to the "company retirement plan." She wasn't aware that her contributions and related earnings would belong to her, even if she left the company. She also didn't know how much the company would match her contributions or how long it would take to become "vested" in those company contributions. If you have been saving for retirement for many years, this type of knowledge may seem obvious, but it isn't always clear to a new hire.
All employees need to have a basic understanding of their retirement benefits from day one on the job since the key to a financially comfortable retirement is accumulating adequate retirement savings to supplement Social Security and the FERS Basic Retirement Benefit.
According to the Center for Budget and Policy, Social Security benefits are progressive: they represent a higher proportion of a worker's previous earnings for workers at lower earnings levels.
For example, benefits for a low earner (with 45% of the average wage) retiring at age 65 in 2024 provide $15,477 a year, replacing about half of their prior earnings. However, benefits for a high earner (with 160% of the average wage) provide $33,769, replacing about one-third of prior earnings, though they are larger in dollar terms than those for the low-wage worker.
According to a recent survey conducted by Principal Financial Group's Retirement Research and Insights, there are three roadblocks to participation in a workplace retirement plan. These include:
- Eligibility is misunderstood
- Saving can be confusing
- Debt with expenses too high compared with salary
The First Roadblock
When employees enter federal employment after having multiple jobs and seeing different retirement plan provisions, they may be confused about the value of their federal benefits and need to be educated on how they work. Employees may not have been automatically enrolled (auto-enrolled) in a retirement plan at a past job and assume that's how all plans work.
Fortunately, federal employees have a very high participation rate in the Thrift Savings Plan. According to recent TSP statistics, 95.7% of all FERS employees participate in the TSP, and 87.6% of all FERS employees contribute 5% or more, enough to receive the full agency match. New federal employees are auto-enrolled in the TSP, and 5%of basic pay is deducted from their paycheck each pay period and deposited into a TSP account.
In addition, they receive the full automatic and matching agency contributions so that 10% of their basic pay rate is being invested in a Lifecycle Fund with a longer target date for younger new hires and a shorter horizon for those coming into federal service later in their careers.
Although most new hires are aware of a portion of their paycheck being invested in the TSP, they may not be as well versed in the FERS retirement benefit they are earning. Federal employees who were first hired after 2013, have been contributing 4.4% of their basic pay (less if they were hired earlier) into the Civil Service Retirement and Disability Fund. It is important for new hires to understand the difference between their TSP account, which is a type of defined contribution retirement plan administered by the Federal Retirement Thrift Investment Board and. their FERS Basic Retirement Benefit, which is a defined benefit retirement plan administered by the Office of Personnel Management. Some of the differences include:
- TSP requires three years to be vested in the one percent agency automatic contribution that all FERS-covered employees receive.
- FERS requires five years of creditable civilian federal service to be vested for an immediate or a deferred FERS Basic Retirement Benefit.
- TSP participation is optional (although very important).
- FERS contributions are mandatory.
- TSP contributions can be transferred to a new employer's retirement savings plan such as a 401(k) or 457(b) plan when an employee separates from federal employment and moves into a non-federal job. The TSP also accepts rollover contributions from a past employer's retirement savings plan.
- FERS contributions can be refunded when an employee separates from federal employment before qualifying for an immediate retirement, resulting in forfeiture of a deferred retirement benefit unless later reemployed in federal service.
- TSP offers a loan program and an in-service withdrawal program for federal employees.
- FERS contributions can only be refunded after leaving federal employment, if the employee is not eligible for an immediate retirement benefit.
- TSP provides various withdrawal options, including a life annuity (the value is based on age, amount of money used to purchase, additional options to protect the investment and an interest rate index that is fixed at the time of purchase), installment payments, and the option to receive partial cash payouts or transfer savings to an IRA.
- FERS provides a lifetime retirement benefit, sometimes referred to as an annuity, based on the employee's average salary and years of service. This benefit is paid at either one percent or 1.1%t of the high-three average times years and months of creditable service.
The Second Roadblock
Misunderstanding your retirement savings plan has significant implications for your future. You may need to play catch-up or work longer to build sufficient savings to supplement your FERS Basic Retirement Benefit and Social Security retirement.
Choosing investments is a topic that can be one of the most challenging elements of saving for retirement. It is not uncommon to find a TSP participant with an investment that is allocated 20% to the G Fund, 30 percent to the L Income Fund, and 50% to the C Fund. It is important to understand how to manage your investment allocation to achieve your retirement goals. According to the TSP, the best way to achieve your retirement goals is to stick to your plan and learn how to manage risk to maximize your returns. You don't have to know everything about investing to get started. To learn more about compounding, the "snowball" effect, and dollar-cost averaging, visit the TSP website. The TSP offers three basic approaches to investing.
- Lifecycle Funds (L Funds): Ten L Funds are diversified between the five individual TSP funds and professionally designed to let you invest your entire portfolio in a single L Fund.
- Individual TSP funds: Choose your own mix of investments from individual TSP investment funds (G, F, C, S, and I Funds).
- Mutual fund window: If you meet certain eligibility requirements and pay the necessary fees, you can choose to further diversify your TSP account by investing a portion of your TSP savings in your choice of available mutual funds through the mutual fund window.
The Principal survey found that many non-participating employees assumed they were automatically enrolled and saving for retirement through their workplace plans. Fortunately, federal employees are auto-enrolled in the TSP when they are hired with FERS retirement coverage. However, they need to understand how to increase their contributions and manage their investments to match their retirement planning goals and risk tolerance. To improve employee's understanding of their retirement savings program, the TSP conducts targeted outreach. Some recent topics include:
- "Now" is always the time to start planning
- How a 1% difference in expenses can add up over time
- Tips for making your savings last in retirement
- Explanation of TSP withdrawal options and other benefits such as low administrative expenses, lifecycle funds, flexible withdrawal options and the TSP Scorecard
The TSP also offers a variety of fact sheets and publications to improve employees' understanding of their retirement savings plan. Employees may also participate in online learning events presented by the TSP.
The Third Roadblock
In 2019, the TSP processed more than 240,000 general purpose loans. In 2023, that number grew to almost 480,000. In five years, the number of loans increased almost 100 percent! Indirectly, there are some good things about borrowing from the TSP that include the interest that is due on the loan is paid back to your own account and you can never borrow the agency automatic one percent or matching agency contributions which allows this portion of your account to continue to grow. However, before taking a TSP loan, you should consider the effects it will have on your retirement savings. It's true that you'll be paying the loan back to yourself with interest, but by temporarily taking money out of your account, you'll be missing out on the compound earnings that money could otherwise have accrued.
Balancing debt and the ability to save for retirement are critical to produce overall financial security. By creating a budget, setting financial goals and sometimes, engaging with a financial professional or someone who understands "living within your means" and managing retirement investments more than you do, can help. According to the Principal survey, the third roadblock to a financially secure retirement must be addressed by retirement savings plans so that employees can feel more empowered to save for their retirement. There are some provisions included in the SECURE Act 2.0 that can help with the third roadblock if they are implemented in the future. These include (but are not scheduled for the TSP as of this writing):
- Allow election of Roth contributions for agency automatic and matching contributions. Although this provision is not currently proposed for the TSP, the TSP has provided the following regarding changes to Roth participation in the TSP:
- The TSP's Office of Participant Experience provided the following information about allowing in-plan Roth conversions that would allow you to elect to convert any or all your pre-tax assets in the TSP to Roth assets:
- Gives participants the chance to build more tax-free retirement income
- May help manage your tax liability in the future
- Research showed that about 1/3 of Vanguard 1,700 plans offer in-plan Roth conversions and approximately four percent of participants chose to use it between 2012 and 2021.
- The TSP has implemented that Roth balances are no longer subject to RMDs prior to a participant's death. If you have a Roth balance in your TSP account, this means your RMD amount may be less than it would have been before 2024. Calculations for RMDs from spouse beneficiary participant accounts still include the entire account balance, and any distribution from a spouse beneficiary participant account still counts toward satisfying the RMD.
- In 2026, the TSP will implement that eligible catch-up contributions must be Roth contributions if your wages from TSP-eligible positions are above a certain threshold. The IRS wage threshold will be adjusted for inflation and announced by the IRS each year. (When this law was passed in 2022, the original wage threshold was set at $145,000 for 2023 wages.)
- Matching student loan debt repayment; employers may treat qualified student loan payments (QSLPs) made by an employee in repayment of a qualified education loan as if they're elective deferrals for the purpose of making matching contributions.
- Emergency expense withdrawals; plans may allow participants to withdraw up to $1,000 in a year from their retirement account to pay for emergency expenses.
- Domestic abuse withdrawals; plans may allow participants who self-certify that they experienced domestic abuse to withdraw up to the lesser of $10,000 or 50% of their vested retirement account. Such withdrawal may be made during a one-year period beginning on any date on which the individual is a victim of domestic abuse by a spouse or domestic partner.
All these options would require amendments to the TSP to make them available to participants. Check the TSP website for future SECURE Act 2.0 changes.
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