When it comes to personal finance, specifically how to address Thrift Savings Plan (TSP) funds upon separating or retiring from the military, service members have the luxury to wait without the hurry.
“When you leave the military, the easiest option with your TSP investments is leaving everything in the TSP,” said Doug Nordman, author of “The Military Guide to Financial Independence and Retirement.” “Life is busy enough for the first few months after military service, and there’s no need to make a quick choice with the TSP.”
While expediency and decisiveness have made many a military career, Nordman, who retired from the Navy in 2002 at 41 years old, said this is one facet of life where time and reflection are necessary.
“The differences [between retirement accounts] might be important depending on your career plans after the military,” Nordman said. “So figure out your next steps in life while you leave your investments in the TSP for a few months.”
Not only will delaying any moves with TSP savings allow time to make the right decision, Nordman said there is a minimal price to pay for brief indecision.
“Although major fund companies have lower expense ratios (in some of their funds) than the TSP, the dollar difference is relatively small,” he said. “The differences can add up over several decades, but they’re insignificant over a few months.”
Leaving funds in the TSP
A proponent of leaving TSP savings where they are is Spencer Reese, author of “The Military Money Manual.” He generally advocates for inactivity (“set-it-and-forget-it”) vs. active management.
“For military service members, 90% of the time it’s best to just leave it alone,” said Reese, a separated active-duty Air Force officer on an investing path to financial independence by age 40. “In general, leaving your TSP invested in a Lifecycle fund and leaving it alone will be the right answer for the majority of people. Personally, I left my TSP account alone when I separated. I check it once a year.”
In his book, Reese preaches the “LADS” concepts – Low-Cost, Automatic, Diversified and Simple. The TSP, he said, satisfies all four.
“The more you leave [your TSP] alone, the better it will usually do,” Reese said. “Your TSP account is not for day trading. Set a reasonable asset allocation, stick to it for decades and let the power of compounding interest go to work.”
Service members can easily set TSP allocations to mimic any Standard & Poor’s (S&P) 500 fund or Total Stock Market Index Fund in terms of diversification and performance.
According to Reese, the TSP invests in the same indexes as the “big three” firms: Vanguard, Fidelity and Schwab, and similar returns can be expected from any S&P 500 index fund, whether an ETF like Vanguard 500 Index Fund (VOO), Standard & Poor’s Depository Receipt (SPDR) 500 Trust (SPY), or a TSP Fund like the C Fund (Common Stock Market Fund).
Reese also said the S&P 500 or the C Fund typically makes up 75% to 80% of the U.S. stock market as measured by market capitalization. The rest of the mid-cap and small cap stocks in the S Fund make up the remaining 20% to 25%.
“Don’t think that moving your funds to another broker or fund will outperform the passive index funds of the TSP,” he said.
However, Reese said moving TSP funds into an employer’s 401(k) or an IRA could be wise if the right conditions are met.
“If your 401(k) is less than optimal, you’re probably better off leaving your funds in the TSP,” he said.
Moving TSP funds
For Do-It-Yourself (DIY) investors seeking a greater sense of control, moving TSP funds into an Individual Retirement Account (IRA) offers a “wider variety of investment opportunities,” according to Nordman.
“There’s actually no need to invest in a complicated variety of funds, but your IRA may find lower expense ratios for a total stock market index fund or a total bond market index fund,” he said.
Moving TSP funds into an IRA also brings the potential to do a Roth conversion at a more convenient time.
“You can roll a Traditional TSP to a Traditional IRA, and then convert the Traditional IRA to a Roth IRA,” Nordman said. “This move might be a good idea when it makes sense to pay lower income taxes on the conversion.”
Roth conversions allow savers to enjoy tax-free money withdrawals from a Roth account in retirement as opposed to paying taxes at the time of withdrawal from a traditional account; however, the initial conversion itself is taxed upfront.
“A Roth IRA conversion can be a complicated decision depending on your career and your future income- tax brackets. It’s worth analyzing this decision with a fee-only fiduciary financial advisor,” Nordman said.
Although rolling TSP funds into an IRA can sometimes be a wise choice, Nordman said he typically advises against rolling a TSP into an employer’s 401(k).
“In general, 401(k)s have higher expenses than the TSP and IRAs, and fewer investment choices. But rolling a TSP to a 401(k) might be useful if your 401(k) plan offers unusual or particularly intriguing investments or large discounts on expense ratios,” he said.
The process of rolling funds out of the TSP to an IRA or a 401(k) begins with a request form on the TSP account.
“You’ll simply provide the name of the IRA or 401(k) custodian along with the new account number,” said Nordman.
The Oahu, Hawaii, resident of 30 years, who has seen his investments compound time and again over decades, said once one reaches financial independence, simplicity begins to take priority.
“In the long run, it may feel simpler to manage your investments by consolidating your TSP and 401(k)s into an IRA. This becomes even more compelling after you’ve reached financial independence,” he said.
For those uncertain what to do with their savings, both Nordman and Reese recommend seeking professional help.
“Separation or retirement is a great time to have a conversation with a fee-only fiduciary advisor or Certified Financial Planner (CFP),” said Reese. “They can make sure you’re on the right path.”