To Roth… or Not to Roth? That is the Question...

To Roth… or Not to Roth? That is the Question...

May 27, 2024

Check out my article written for Fedadvisory...

To Roth… or Not to Roth? That is the Question...
by Richard Bavetz, FRC℠ May 26, 2024

Let’s face it. Does anyone really believe taxes are going down?  Taking it one step further… does anyone want to make less money next year? What about the year after that? Isn’t it true that we all want to get a raise next year and none of us want to lower our lifestyle when we retire?

Achieving Parity® is the minimum goal; making in retirement what you made while working, means you get to keep your lifestyle. What if you could get a raise for staying home? Even better!

Everyone who truly thinks this through will realize that deferring (delaying) the payment of our income taxes into the future goes against what we believe will happen, what we want to happen, and what we’re all working so hard to achieve… that is a successful retirement outcome.

The Thrift Savings Plan (TSP) Roth option provides several unique advantages that can be especially beneficial if you anticipate higher taxes in the future, or if you plan to make more money in the future.

Although the many advantages listed below are specific to the TSP, most, if not all of the logic, applies to plan participants in a private sector 401k, individuals with an IRA, and nearly all the advantages we cover apply to everyone. If you are in the private sector keep reading. Please just make sure to check with us on which of these advantages apply to you.

Tax-Free Withdrawals in Retirement
Future Tax Savings: Contributions to the TSP Roth are made with after-tax dollars, meaning you pay taxes on the money before it goes into the account. The significant benefit is that qualified withdrawals, including earnings, are tax-free. This is particularly advantageous if tax rates increase over time, as you won’t owe taxes on the growth or distributions. Do you believe tax rates will go up over time?

Predictable Tax-Free Income: Knowing that your withdrawals will be tax-free provides greater predictability and security in retirement planning, especially when tax rates are rising.

State Income Tax Considerations: Some states do not tax Roth TSP distributions, which can be an added benefit if you live in or move to a state with high-income taxes. This can further enhance the tax advantages of Roth TSP accounts in retirement.

No Required Minimum Distributions (RMDs) if Transferred to Roth IRA
Roth TSP RMDs: While Roth TSP accounts are subject to RMDs starting at age 72, transferring your Roth TSP to a Roth IRA can eliminate this requirement. Roth IRAs do not have RMDs during the account holder’s lifetime, allowing your savings to continue growing tax-free and providing more flexibility in managing your retirement funds.

Control Over Withdrawals: This transfer can give you more control over your retirement withdrawals, potentially reducing your taxable income in retirement and allowing for better tax planning.

Legacy Planning: Roth accounts can be a powerful tool for estate planning. Since they do not require RMDs, a Roth account can be passed on to heirs, who can benefit from continued tax-free growth. Moreover, the inheritable nature of a Roth TSP or IRA, makes for a far better outcome for all non-spouse beneficiaries.

Tax-Free Growth
Compounding Benefits: All earnings in a Roth TSP account grow tax-free, significantly enhancing the growth potential of your investments over time. This is especially beneficial over a long investment horizon, where compounded returns can substantially increase the value of your account.

Maximized Net Retirement Savings: Tax-free growth means the full value of your investment returns remains in your account, leading to potentially higher net retirement savings compared to a traditional account where earnings are taxed upon withdrawal.

Hedging Against Tax Rate Uncertainty
Protection from Rising Taxes: If you believe that tax rates will be higher when you retire than they are today, Roth accounts provide a hedge against this risk. By paying taxes now at the current lower rates, you avoid the risk of having to pay potentially higher rates on your retirement savings later, ensuring that you have a source of tax-free income in retirement.

Diversified Tax Strategy: At the very least, having a mix of tax-deferred (Traditional) and tax-free (Roth) accounts can give you flexibility in managing your taxable income during retirement. This lets you strategically withdraw from different accounts to minimize overall tax liability.

Matching Contributions
Government Matching: For Federal Employees Retirement System (FERS) participants, the government provides matching contributions up to 5% of your salary. While the matching contributions are placed in the Traditional TSP (and thus are taxed upon withdrawal), the personal contributions to the Roth TSP still benefit from this employer match, effectively increasing your overall retirement savings.

Flexibility in Retirement Spending
Reduced Tax Impact on Social Security: Withdrawals from Roth accounts do not count as income to determine the taxability of Social Security benefits. This can help keep your overall taxable income lower, potentially reducing the portion of your Social Security benefits that are subject to tax.

Integrated with Federal Benefits
TSP’s Low Fees: The TSP is known for its low administrative and investment fees compared to other retirement savings plans. This cost efficiency allows more of your contributions and investment earnings to remain in your account, boosting your retirement savings.

Ease of Management: Being part of the federal benefits package, managing your Roth TSP alongside your other benefits like Traditional TSP, Federal Employees Retirement System (FERS) pension, and Social Security can simplify your retirement planning.

Seek Professional Guidance
Consult with a Professional: Federal employees have a robust set of benefits designed to maximize retirement income. By taking full advantage of these resources and planning strategically, a Federal Worker can secure a comfortable and financially stable retirement. Playing it smart by working with a professional to assist in your retirement planning can make a huge impact on the success of your planning. Don’t wait until the last year to start planning.

Consider advisors specifically trained in Federal Benefits such as a Federal Retirement Consultant℠ (FRC℠). An FRC℠ is a professional specializing in Federal Employee Retirement planning and advice. Because they are certified in the Federal Employee Benefits plan, they can offer personalized advice on maximizing your retirement income as well as utilizing all of the benefits offered, based on your specific situation.

The Roth TSP offers substantial advantages, particularly in a rising tax environment. By providing tax-free growth, tax-free withdrawals as protection against rising tax rates, the potential to avoid RMDs by transferring to a Roth IRA, and the flexibility to manage your tax strategy, the Roth TSP enhances your ability to secure a more tax-efficient retirement. Combined with the low fees and integrated benefits of the TSP, it becomes a powerful tool for federal employees looking to maximize their retirement savings and financial security. These advantages can lead to significant tax savings and financial security in retirement, making Roth accounts an attractive option for many TSP savers looking to maximize their retirement outcomes in a potentially high-tax future. It’s time to Get Excited!

Rick Bavetz is a Federal Retirement Consultant℠ and has been helping Federal Employees understand their employee benefits for over 15 years. He has also been teaching the employees of various Federal Agencies how to maximize the outcomes of their Federal Service by utilizing the Federal Employee Benefits plan to its fullest.

Some federal agencies Rick has worked with:
Veteran’s Affairs, EEOC, USDA, FAA, FTC, DEA, DHS, the ARMY & NAVY, DCMA, CBP, SSA, IRS, and others.

Richard Bavetz, FRC℠ is a Fiduciary, and holds a Series 65 securities license, various State Insurance Licenses, and a CA Real Estate License. Federal Employee Benefits Assessments, Financial Planning, Retirement & Insurance Consulting Services, are offered through Carington Financial. Advisory services are offered through J.W. Cole Advisors, Inc. (JWCA). Carington Financial (CF) and JWCA are unaffiliated entities.