The Thrift Savings Plan (TSP) is a retirement savings and investment plan offered to federal employees and members of the uniformed services. It functions similarly to a 401(k) plan in the private sector, allowing participants to contribute pre-tax dollars to their accounts. Contributions made to a TSP are not taxed until they are withdrawn during retirement, potentially providing significant tax savings. Participants can choose from a variety of investment options within their TSP accounts, including mutual funds, target-date funds, and government securities. Like a 401(k), the TSP offers tax-deferred growth on investments, allowing earnings to accumulate tax-free until withdrawal. However, unlike a traditional 401(k), the TSP does not have employer matching contributions.
Differences Between Thrift Savings Plans (TSPs) and 401(k)s
Thrift Savings Plans (TSPs) and 401(k)s are both employer-sponsored retirement savings plans that offer tax benefits. However, there are some key differences between the two plans.
Traditional vs. Roth 401(k)s
One of the biggest differences between TSPs and 401(k)s is how they are taxed. TSPs offer both traditional and Roth options. With a traditional TSP, you make pre-tax contributions, which reduces your current taxable income. Your earnings grow tax-deferred until you withdraw them in retirement, at which point they are taxed as ordinary income.
With a Roth TSP, you make after-tax contributions, which means you pay taxes on the money you contribute now. However, your earnings grow tax-free, and you can withdraw them tax-free in retirement.
The type of TSP you choose will depend on your individual financial situation and your retirement goals. If you are in a low tax bracket now, a traditional TSP may be a better option for you. However, if you expect to be in a higher tax bracket in retirement, a Roth TSP may be a better choice.
Other Differences Between TSPs and 401(k)s
- TSPs are only available to federal employees and members of the uniformed services. 401(k)s are available to employees of private companies and non-profit organizations.
- TSPs have lower fees than 401(k)s. The average annual fee for a TSP is 0.04%, while the average annual fee for a 401(k) is 1.22%.
- TSPs offer a wider range of investment options than 401(k)s. TSPs offer five different lifecycle funds, which are target-date funds that automatically adjust your asset allocation as you get closer to retirement. TSPs also offer a variety of other investment options, including stock funds, bond funds, and index funds.
The table below summarizes the key differences between TSPs and 401(k)s.
| Feature | TSP | 401(k) |
|---|---|---|
| Eligibility | Federal employees and members of the uniformed services | Employees of private companies and non-profit organizations |
| Fees | 0.04% average annual fee | 1.22% average annual fee |
| Investment options | Five lifecycle funds, stock funds, bond funds, index funds | Varies by plan |
| Tax treatment | Traditional: Pre-tax contributions, tax-deferred earnings, taxed as ordinary income in retirement. Roth: After-tax contributions, tax-free earnings, tax-free withdrawals in retirement. | Traditional: Pre-tax contributions, tax-deferred earnings, taxed as ordinary income in retirement. Roth: After-tax contributions, tax-free earnings, tax-free withdrawals in retirement. |
Employer Contributions and Vesting
Thrift Savings Plan (TSP) is a retirement savings plan offered to federal employees and members of the uniformed services. It is similar to a 401(k) plan in many ways, but there are some key differences. One of the most significant differences is that TSP offers employer contributions, while 401(k) plans do not.
Employer Contributions
TSP employers contribute a percentage of each employee’s basic pay to the employee’s TSP account. The amount of the contribution is based on the employee’s length of service and pay grade. The table below shows the employer contribution rates for different lengths of service:
| Length of Service | Employer Contribution Rate |
|---|---|
| Less than 5 years | 1% |
| 5 to 10 years | 2% |
| 10 to 15 years | 3% |
| 15 years or more | 4% |
- Employer contributions are not included in the employee’s taxable income.
- Employer contributions are immediately vested, meaning that the employee can withdraw them at any time without paying taxes or penalties.
- Employer contributions can be used to repay TSP loans.
Vesting
Vesting refers to the process by which an employee acquires ownership of their retirement savings. In a TSP, employees are 100% vested in their own contributions immediately. This means that they can withdraw their own contributions at any time without paying taxes or penalties.
However, employer contributions are not immediately vested. The vesting schedule for employer contributions is as follows:
- 20% vested after 2 years of service
- 40% vested after 3 years of service
- 60% vested after 4 years of service
- 80% vested after 5 years of service
- 100% vested after 6 years of service
If an employee leaves federal service before they are fully vested in their employer contributions, they will forfeit the unvested portion of those contributions.
Tax Deferral and Benefits
Both 401(k)s and Thrift Savings Plans (TSPs) offer tax-deferred growth on contributions. This means that your contributions are made pre-tax, reducing your current taxable income and potentially boosting your savings. The earnings on your investments within the plan also grow tax-deferred until you withdraw them, allowing your money to compound more efficiently.
- Tax Savings: Tax-deferred growth can result in significant savings over time, as earnings accumulate without being taxed until withdrawn.
TSPs offer several additional benefits:
- Matching Contributions: The government contributes a percentage of your salary to your TSP, up to certain limits. This is essentially free money that can boost your savings.
- Low Fees: TSPs typically have lower fees than other retirement plans, such as 401(k)s.
- Multiple Investment Options: TSPs offer a wide range of investment options, so you can choose the ones that best align with your risk tolerance and financial goals.
| Feature | 401(k) | TSP |
|---|---|---|
| Tax Deferral | Yes | Yes |
| Matching Contributions | Varies by employer | Yes, from the government |
| Investment Options | Varies by employer | Wide range of options available |
| Withdrawal Age | 59 1/2 | 55 (if separated from federal service) |
401(k) vs. IRA
Thrift Savings Plans (TSPs) are similar to 401(k) plans in many ways, but there are also some key differences. Let’s compare 401(k) plans and TSPs side-by-side, and IRAs:
| Feature | 401(k) Plan | TSP | IRA |
|---|---|---|---|
| Who is eligible? | Employees of companies that offer the plan | Federal employees and members of the uniformed services | Anyone with earned income |
| Contribution limits | $22,500 in 2023 ($30,000 for those age 50 or older) | $22,500 in 2023 ($30,000 for those age 50 or older) | $6,500 in 2023 ($7,500 for those age 50 or older) |
| Employer matching contributions | Optional | Automatic, varying based on pay grade and length of service | N/A |
| Investment options | Typically a range of mutual funds | Similar to a 401(k) plan | Wide range of investment options, including mutual funds, stocks, and bonds |
| Withdrawal rules | Subject to a 10% penalty if withdrawn before age 59½ (unless used for certain purposes) | Subject to income tax and a 10% penalty if withdrawn before age 59½ (unless used for certain purposes) | Roth accounts: no penalty for withdrawals; Traditional accounts: subject to income tax and a 10% penalty if withdrawn before age 59½ (unless used for certain purposes) |
| Taxes | Traditional accounts defer taxes until withdrawal; Roth accounts are taxed upfront but offer tax-free growth | Traditional accounts defer taxes until withdrawal; Roth accounts are taxed upfront but offer tax-free growth | Traditional accounts defer taxes until withdrawal; Roth accounts are taxed upfront but offer tax-free growth |
| Additional benefits | May offer loan options (subject to plan rules) | May offer loan options (subject to plan rules) | May offer tax-free withdrawals for certain purposes, such as first-time home purchases |