Federal employees shouldn’t overlook the potential advantages of investing in a Roth TSP or Roth IRA.
Who doesn’t love a good sale? It just feels good to know you’ve saved some money by taking advantage of a limited opportunity. I am not alone in this—just last year, we Americans spent a whopping 7.4 billion dollars on Black Friday alone.
Well guess what? Your taxes are on sale right now. But it probably won’t last.
For the last couple of years, many people have been benefiting from a “sale” on their taxes thanks to the 2017 Tax Cuts and Jobs Act. But many of these tax breaks are set to expire in 2025. Could that date be extended? Definitely. It just comes down to what the next administration and Congress choose to do over the next few years.
I have no crystal ball but I would be surprised if tax rates stayed as low as they are now. With the federal debt rising and underfunded programs like Social Security, these deficits will have to be filled somehow. My guess is that we the taxpayers will be called upon to fill these gaps one way or another.
Taxes In Retirement
So what does this mean for you as a federal employee? One of the biggest things to think about is your retirement. For those on the Federal Employees’ Retirement System, your retirement income is generally made up of three things: your pension, Social Security, and the money you’ve saved through the Thrift Savings Plan. The vast majority of your pension is taxable in retirement and up to 85% of your Social Security is taxable as well. Most federal employees have all their retirement savings in the traditional TSP, which is 100% taxable. To summarize, federal employees are going to pay their fair share of taxes in retirement.
Many feds anticipate that they will be in a lower tax bracket in retirement. But in my experience, this doesn’t happen as often as people expect.
There are only two ways to be in a lower tax bracket in retirement. First, you can just have less income. But lowering their standard of living in retirement doesn’t sound like an ideal retirement plan for many. Most people I talk to want to at least maintain their lifestyle if not increase it in retirement. The second option is to have tax free retirement savings (Roth TSP or Roth IRA) to keep taxes down in retirement.
I am sure the comments section is already filling up with notes that say that you only need 80% of your pre-retirement income during retirement. And sometimes that is absolutely true. But that doesn’t apply to everyone. The best thing to do is to figure out what level of income you need and want in retirement. It will be different for everyone. Some people will have a mortgage in retirement and some people won’t. Some people will want to travel the world in retirement and some people won’t. What does an ideal retirement look like for you and what type of income would it take to get there? A great place to start is to look at your current expenses before retirement and ask yourself if you really will need less.
My point here is not to scare everyone into starting to invest in the Roth TSP. Some feds simply make too much for that to make sense right now. But there is no financial blueprint that works for everyone. Taxes are probably not going down in the future. Don’t add to your stress by going into retirement with misconceptions.
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