Leaving military service brings about several life changes, especially in finances.

While retirement planning may be the last thing on your mind, it’s still important as you try to establish economic autonomy in the civilian world.

Therefore, if you’re adjusting your retirement planning, you’ll want to learn more about the differences between TSPs and IRAs to determine which plan makes the most sense.

Thrift Savings Plan (TSP)

What is TSP?

A Thrift Savings Plan is a retirement savings and investment plan available to federal employees and service members. TSPs are similar to 401(k)s, offering employer matching, high contribution limits, and low administrative fees.

Pros of TSPs

• Employer Contributions: TSPs offer matching contributions from employers, which can significantly boost retirement savings.
• Low-Fees: TSPs boast some of the lowest administrative and investment expenses, making them extremely cost-effective.
• Tax Benefits: TSPs come in Traditional or Roth structures, allowing you to make tax-deferred or after-tax contributions and earnings.
• Portability: TSPs can be rolled over into an IRA or another qualified retirement plan when you leave federal service for no tax penalty.

Cons of TSPs

• Limited Investment Options: Most TSPs limit investment options to index funds (G, F, C, S, and I Funds), severely limiting your ability to diversify your portfolio.
• Required Minimum Distributions (RMDs): Though the SECURE 2.0 Act pushed back the year to take RMDs from a TSP to 73, this does limit your ability to save money well into your retirement years.
• Withdrawal Penalties: Early withdrawals before 59½ will incur a penalty.

Individual Retirement Account (IRA)

What is an IRA?

An Individual Retirement Account is a tax-advantaged savings account designed for individuals to save for retirement. The most common IRAs are Traditional and Roth, both with slightly different tax benefits.

Pros of an IRA

• Tax Flexibility: Traditional IRAs offer tax deductions on contributions, reducing your taxable income in the year you make contributions. Roth IRAs, on the other hand, provide tax-free withdrawals in retirement.
• Investment Choices: IRAs offer a wider range of investment options than TSPs, including individual stocks, bonds, mutual funds, and real estate investment trusts (REITs).
• No Employer Requirement: Unlike TSP, you can open and contribute to an IRA regardless of your employment status, making it accessible to freelancers and self-employed individuals.
• Early Withdrawal Options: Traditional IRAs offer penalty-free early withdrawals for certain qualified expenses, such as first-time home purchases or higher education expenses. Roth IRAs allow all contributions to be withdrawn tax-free.

Cons of an IRA

• Low Contribution Limits: IRAs have a maximum contribution limit of $6,500 for 2023, with an additional catch-up rate of $1,000 for individuals 50 or older.

• Income Limits: While Traditional IRAs have no income limits, Roth IRAs have a Modified AGI (MAGI) limit of $153,000 for single tax filers and $228,000 for married couples.

• No Matching Contributions: IRAs are individual retirement accounts, meaning they do not come with employer matching options.

• Restricted Investment Options: Although IRAs offer greater investment freedom than TSPs, they still limit your investments to the stock market. To invest in alternative assets, you must switch to a self-directed IRA (more below).

Self-Directed IRAs

What Is a Self-Directed IRA?

Self-directed IRAs (SDIRA) are individual retirement accounts administered by a specially licensed custodian, which allows you to invest in alternative assets.

Unlike most traditional retirement accounts, SDIRAs allow you to invest retirement funds in real estate ventures, Bitcoin, gold, promissory notes, and more.

Pros of SDIRAs

• More Investment Choices: SDIRAs offer a range of alternative assets to invest with, including rental properties, P2P lending, and much more.
• Diversification: SDIRAs allow you to create a highly diversified portfolio that aligns with your investment goals and risk tolerance.
• Hedge Against Market Volatility: Diversifying your SDIRA with alternative investments can help protect your retirement savings from the ups and downs of traditional financial markets.
• Control and Flexibility: SDIRAs allow you to make investment decisions and tailor your portfolio to your specific preferences.

Cons of SDIRAs

• Prohibited Transactions: Though SDIRAs provide the widest range of investments, they don’t allow you to invest in everything. Certain collectibles are banned from investing, and all properties you purchase must be strictly for investment purposes only.
• Fees: They vary by custodian but tend to run higher than most retirement accounts. Conversely, your custodian will handle many of the day-to-day minutiae of tax adherence and administration.

• Higher Risk: Alternative investments carry a higher risk than traditional assets.

• Illiquidity: Some alternative investments held within SDIRAs, such as real estate or private equity, can be illiquid and challenging to part with at sale.

See More: How Veterans Can Leverage Self-Directed IRAs for Retirement.

Traditional vs. Roth Retirement Accounts: Choosing the Right Tax Structure

Whether you choose a TSP, IRA, or SDIRA, you’ll need to decide whether or not you want to use a Traditional or Roth structure–available to all plans.

Traditional accounts are tax-deferred, meaning that all contributions to an account are tax deductible the year they are made, but you will need to pay taxes on withdrawals in retirement.

On the other hand, Roth contributions are made with after-tax dollars, meaning all contributions can be withdrawn tax-free, and all earnings accrue tax-free. If you wait until 59½, all the money in your Roth account will be available to you in a lump sum tax-free.

TSP vs. IRA: By the Numbers

Which Account Is Right for Me?

Deciding which retirement account is right for you depends on your circumstances.

First, decide whether or not you plan to receive a retirement account through an employer or will contribute to one solo. A TSP may be suitable if you have a good job with matching contributions.

Next, decide which account offers the best investment options to help you reach your goals. Are you a savvy investor looking to generate passive income for retirement? Then, a self-directed IRA will be right for you.

Finally, you’ll need to decide whether or not you’ll be using a Traditional or Roth-structured account. If you plan to be in a higher tax bracket come retirement, then a Roth structure will be right.

For more information, talk to a financial specialist. If you’re interested in opening a self-directed IRA or learning more, talk to one of our concierge specialists at Horizon Trust today!

FAQs

Can I have both an IRA and a TSP?

Yes, you can have an IRA (Individual Retirement Account) and a TSP (Thrift Savings Plan) if you meet each eligibility criteria. Having both accounts can offer additional retirement savings options and flexibility.

How do I open an IRA or TSP account?

To open an IRA, you can contact a financial institution that offers IRA services, such as banks, brokerage firms, or online investment platforms. For a TSP account, if you’re a federal employee or Uniformed Services member, your agency or branch of service will provide instructions on opening an account.

Can I roll over my TSP into an IRA?

Yes, you can roll over your TSP funds into an IRA, which can provide you with more investment options and control over your retirement savings. This rollover process must meet specific IRS guidelines to avoid penalties and taxes.

What happens to my TSP when I leave federal employment?

When you leave federal employment, you have several options for your TSP, including leaving it in place, rolling it over into an IRA or a new employer’s retirement plan, or taking a lump-sum distribution. Each option has its own tax and financial implications, so it’s crucial to evaluate them carefully.