TSP Wealth Management
A Thrift Savings Plan (TSP) is a retirement savings plan offered to employees of the United States government and members of the military.
You may have a TSP, which is a defined contribution plan. You may also have a government pension, which is a defined benefit plan. The difference is simple: In defined contribution plans, you contribute your own money to save for your retirement while defined benefit plans are funded by your employer.
A TSP is a defined contribution plan, meaning that you choose how much you want to contribute each year, as a percentage of your salary. Defined contribution plans are distinct from defined benefit plans, such as pensions or annuities. Defined benefit plans are designed to offer a specific benefit amount (income) in retirement. Since your TSP is a defined contribution plan, this means that the amount of the retirement nest egg saved into your TSP can vary depending on choices you make over your career.
A TSP is very similar to the 401(k) plans offered by civilian, non-government companies.
In many organizations, your employer offers a matching contribution for your TSP contributions. For example, if you choose to contribute 3 percent of your salary annually and your employer offers a 100 percent match, your employer will contribute another 3 percent into your fund choices.
This is often referred to as “free money” because the match is money above and beyond your salary and other benefits. For example, if you are earning $60,000 and contribute 3 percent of your salary, you save $1,800 into your TSP every year. But if your employer provides a 100 percent match, you’ll receive an additional $1,800 every year, so you contribute a total of $3,600.
Blended Retirement System (BRS) members and Federal Employees’ Retirement System (FERS) employees receive an automatic contribution of 1 percent of their base pay to their TSP, whether or not they contribute. Participants are also eligible for additional matching contributions up to 5 percent of their salary.
How much money you’ll need at retirement is one of the most important questions any employee can ask. Everyone is different, so your answer will be unique to you. It’s hard to estimate because it’s a moving target with so many unknowns. However, how much you estimate you’ll need in retirement is crucially interconnected with how much you should contribute to your TSP.
It’s important to have a realistic estimate of your retirement expenses, as well as how much you can expect to receive from all income streams.
First, estimate how much money you’ll need when you retire. If you’re early in your career, retirement may seem far away, but it’s still necessary to plan for this phase in life. Planning early can help make reaching your dream retirement easier for you in the long-run.
Second, determine the income streams you’ll have in retirement. Many federal organizations, for example, also offer employees defined benefit plans such as pensions or annuities. If you are eligible for these, your organization should provide you with a prediction of what you’ll receive upon retirement.
Third, determine your estimated Social Security benefits at retirement if you are eligible.
Then, calculate how much of your estimated retirement expenses will be covered by these retirement sources.
EXAMPLE: Your estimated retirement expenses total $5,000 per month. It’s estimated you will receive a retirement pension worth $1,500 per month. Your Social Security benefits are estimated to total $1,500 every month. These two plans total $3,000 in income each month.
Estimated retirement expenses of $5,000 – $3,000 in income = $2,000 in expenses to be covered by retirement savings.
The $2,000 in estimated expenses not covered by other income streams will need to be covered by your own savings. Your TSP can be an excellent vehicle for these savings.
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Going through the steps above, you determined that your TSP account needs to generate $2,000 per month for you upon retirement, or $24,000 per year ($2,000 x 12 months = $24,000).
How do you know how much to save? A common rule of thumb is to multiply the estimated yearly amount you’ll need by 25 years. In short, $24,000 x 25 = $600,000. In this instance you’ll need an estimated $600,000 total in your TSP account at retirement.
Keep in mind this is a basic Rule of Thumb calculation. You may retire earlier, or live longer, or have other circumstances change, which could change the 25-year assumption used here. It’s prudent to consult a financial advisor about how much you’ll likely need in retirement.
Calculating how much you should contribute every month depends upon a number of factors, including:
- The total amount you estimated for TSP savings needed
- Your current salary
- The amount of time until your planned retirement
- Your employer match, if any
- Your asset allocation
- Your TSP annual returns
The Internal Revenue Service (IRS) determines the maximum contribution amount every year. Currently, it is $19,500 annually. TSP participants who are aged 50 or over are allowed to save $6,500 on top of this, or $26,000 total.
A financial advisor can help you determine a good contribution rate based on your unique situation.
TSP plan participants choose from six different funds.
- The Government Securities Investment (G) Fund
- The Fixed Income Index Investment (F) Fund
- The Common Stock Index Investment (C) Fund
- The Small Capitalization Stock Index (S) Fund
- International Stock Index Investment (I) Fund
- Life-cycle (L) Funds, which hold a blend of securities held in each of the individual funds
Which should you invest in? To answer that, it’s important to understand:
- The asset class of each fund
- The risk-reward profile of the asset class
- The long-term performance of each fund
If you enrolled in a TSP on or after September 5, 2015, your contributions were automatically deposited into the L Fund targeted toward the year you turn 62. If you enrolled before that date, your contributions were deposited into the G Fund by default. These default fund allocations may not match your particular goals or risk-reward profile.
Risk in retirement funds depends on several factors. One of the most important is your age. Investors in their 20s have years in which their investment results can compound. They are able to recoup any stock market losses in subsequent years. But investors in their 50s and 60s can be hurt by losses if they occur close to their planned retirement age and before the stock market recovers.
Another important factor in risk is diversification. The adage “don’t put all your eggs into one basket” is a good one to keep in mind! Diversifying your investments helps provide balance to your portfolio so you are not tied to any one fund or asset class. If the U.S. stock market has a bad year, for example, international stock funds may cushion your loss.
Each investor should know their own psychological tolerance for risk and invest accordingly. A financial advisor can help with this.
If you are a long-term investor, it’s common to think of your retirement portfolio in terms of buying and holding, rather than selling frequently. Selling can significantly cut into your gains over the long-term. Many people who panicked during the Great Recession and sold all or some of their stock investments, for example, missed the major climb that followed! If you sell, you lose the chance to recoup your losses, because you’re no longer in the market.
If you want to change your TSP fund choices, do it in the context of a periodic review rather than a reaction to market conditions that may not have an impact on your longer-term goals. Review your choices with your financial advisor at least once a year, analyzing performance, risk and asset allocation. Make any changes necessary. A TSP analysis can go a long way.
TSPs, like many other retirement plans, can be complicated and should be considered in the context of your overall financial goals and retirement planning. A financial advisor can help you navigate your TSP options, but it’s important to work with an advisor who understands TSP wealth management and the ins and outs of these unique plans.
Scarborough Capital Management is one of these firms! Learn more about how we can help you with your TSP. It’s important that you get TSP recommendations and any TSP retirement advice from an experienced professional!
Securities offered through Independent Financial Group, LLC (IFG). Member FINRA/SIPC. Advisory services offered through Scarborough Capital Management, a Registered Investment Adviser. IFG and Scarborough Capital Management are unaffiliated entities.