Thrift Savings Plan Basics
The Thrift Savings Plan, or TSP, is a retirement savings plan for current and retired employees of the federal government. It is the federal government equivalent of a 401(k) plan, and follows basically all of the same rules. Like a 401(k), the TSP provides tax advantages you won’t receive in a normal brokerage account. This can save you many thousands of dollars over your lifetime.
The TSP was created by the Federal Employee’s Retirement System Act on 1986. At the time, it was only available to federal civilian employees. Military folk had to rely entirely on getting a pension, or opening an IRA if they could. In 2001, the TSP was opened to active duty and Reserve members under the Floyd D. Spence National Defense Authorization Act. In addition to military, that Act also allowed uniformed members of the Public Health Service and National Oceanic and Atmospheric Administration to participate.
Like a 401(k), you can put up to $18,000 into the TSP in 2017. That number changes every few years, so keep an eye out. There is a special exception for military members which allows you to put up to $54,000 away each year you are deployed. You can read more about that here.
How does the Thrift Savings Plan work?
The TSP is managed by the Federal Retirement Thrift Investment Board, or FRTIB. The FRTIB is an independent government agency managed by an Executive Director and a board. They are required by law to “manage the TSP prudently and solely in the interest of the participants and their beneficiaries.” That’s what I like to hear!
Unlike the military pensions, which are defined-benefit programs, the TSP is a defined-contribution plan. This means that federal government employees and the employer can contribute money on behalf of the employee. The money goes into an investment vehicle with the goal of earning enough over time to be able to support the employee in retirement.
With a defined-contribution plan, you can’t know how much the investments will be worth upon retirement. It may end up being worth more than a pension, or it may be less. It depends on which investments you choose and how well they perform over the years.
An individual’s contributions to the TSP are automatically deducted from the servicemember’s paycheck. Most military are going to sign up via myPay. If you can’t use myPay, or choose not to, you can also turn in a Form TSP-U-1 to your finance office.
Once you have signed up, you will receive a password from the TSP that will allow you access to www.TSP.gov. From there, you can change your investment allocations. If you want to change your contributions, though, you do that through myPay.
The Thrift Savings Plan Investment Options
There are six different funds to choose from within the TSP. While that might sound like not a lot of choice, there are some benefits to it. First, it prevents analysis paralysis. You won’t be overwhelmed by options! Second, because of how the funds are set up, you can actually gain broad exposure to the market based on how you allocate your contributions.
I’m planning to write detailed posts about each of the TSP Funds, so I won’t go into much detail here. But for now, here are the funds you can choose from:
- G Fund: government securities (lowest risk, but also low potential earnings)
- F Fund: bonds (higher risk, higher potential earnings)
- C Fund: medium-to-large US companies, designed to match the S&P 500 (higher risk, high potential earnings)
- S Fund: small-to-medium US companies, designed to match the Dow Jones US Completion TSM index (higher risk, high potential earnings)
- I Fund: international stocks (higher risk, high potential earnings)
- L Funds: Lifecycle funds with portions of each of the above funds
L Funds are designed to age with you and are based on the date closest to your projected retirement. There are currently five L Funds: L Income (intended for those already retired), L 2020, L 2030, L 2040, and L 2050. As time goes on, you should see an L 2060, L 2070, etc.
If the L Funds aren’t quite right for you, you can create your own combination by changing your contribution allocations. For instance, you could allocate 50% to the C Fund, 30% to the I Fund, and 20% to the S Fund. That is not a recommendation. That is an example I came up with off the top of my head. Please do not change your allocation based on that random example!
You can also do an Interfund Transfer. You might want to do this if you have been following an investment strategy and decide it’s no longer working for you. Learn more about Interfund Transfers here.
Other Important Things to Remember
There are two options for tax treatments in the Thrift Savings Plan. You can contribute to a Traditional TSP, a Roth TSP, or both. I’m not going to go into the details of the tax treatments now, because I already wrote about it here. If you aren’t familiar with Traditional and Roth tax treatments, definitely check that out.
When you enroll in the TSP, your contributions are automatically allocated to the G Fund. That’s the one with the lowest potential return! Unless you have an extremely low risk tolerance and are willing to make up for that by saving extremely high percentages of money, you will want to change your allocations.
This is actually my least favorite part of the TSP. Luckily, the times they are a’changin’. Starting in 2018, when the Blended Retirement System rolls out, the contributions will automatically be invested in an L Fund based on the member’s age. That is fantastic and IT’S ABOUT TIME, TSP! The L Fund may or may not be better than a hand-selected combination based on your goals and risk tolerance, but it is way better for most investors than the G Fund!
Since the Thrift Savings Plan is designed for retirement savings, there are a lot of rules about when and how you can withdraw the money. Generally speaking, you will have to pay a 10% penalty on withdrawals before the age of 59.5. But you are smart and follow sources like Military Dollar, so you know there are ways to pull the money out earlier if you want/need to.
Low Expense Ratios
One of the greatest things about the Thrift Savings Plan is the extremely low expense ratios. Expense ratios show how much it costs to run the fund and are expressed as a percentage. What a lower expense ratio means to you is that it lowers the amount you earn on your investment. The lower your expense ratio, the more money you keep.
In 2015, the Center for American Progress found that the average expense ratio for a 401(k) was about 1%. A low-cost broker, such as Vanguard, might charge 0.12%. Meanwhile, the expense ratio for the TSP is a rock-bottom 0.038%.
That means for every $100,000 in assets you have in the TSP, you are only paying $38 in expenses each year. Compare that to even a low ratio from Vanguard, where you might may $120 each year . That’s a savings of about $80 per $100,000 invested. That may not sound like a lot, but think about what that turns into over 40+ years, especially after you compound the effect. Double your assets to $200,000, and you save $160 each year. Open an average 401(k), and you might be spending $1,000 in expense ratios for every $100,000 in assets.
Now consider how those amount would affect your account balance over decades. You can see how over time, this means you are keeping thousands of dollars in your pocket that you wouldn’t get to keep if you weren’t in the TSP. Scary!