Our national debt is almost at 20 trillion dollars! This number is up from $9 trillion just before the financial crisis a few years ago. So how does this affect your retirement as a federal employee?
For most federal workers, most of your retirement contributions are forever taxable at whatever rate the government chooses. This can mean nearly all your FERS/CSRS pension, up to 85 percent of your FERS supplement, up to 85 percent of your Social Security, and 100 percent of your traditional TSP. That pretty much encompasses your entire finances for retirement. This can also pose a huge risk if there if tax spike in the future because your savings could take a giant hit.
There are only a few financial tools that can protect your retirement from higher future tax rates. Furthermore, the IRS strictly governs these and purposely puts contribution limits on them to regulate funding.
Funding a Roth TSP
The way each is taxed creates the difference between a Roth TSP and a Traditional TSP. The Traditional TSP uses pre-tax dollars to fund, and the Roth TSP uses post-tax dollars. Both have the same investment options and low fees. Working with a Federally Focused Financial Advisor (one who specializes in federal employees) is important. They know the federal system and can help with the “Pro-Rata Rule”. This rule states that TSP distributions must be proportionately taken from Traditional and Roth TSP accounts. That eliminates the ability to control tax treatments of disbursements.
Know How Lower Rates Impact a Roth Conversion of Your IRA or Traditional TSP
A Traditional TSP can’t intentionally be converted to a Roth TSP, so converting it requires an extra step. Funds from your TSP must be transferred to an IRA, then that IRA must be converted to a Roth IRA. This extra step is taxable and could potentially have caveats and implications.
What You Can Do
You can eliminate the risk of future higher taxes by paying tax now rather than in the future. This will help protect you against a possible spike in taxes. Also, these strategies generate supplemental income which is not reported as income. That can lower the amount of your Social Security benefit (FERS supplement) that is taxable, which further lowers your tax liability.
If you have a disability that is preventing you from performing all of the essential functions of your job, you may qualify for Federal Disability Retirement.