TSP Loan vs Credit union Loan

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Topic Author
DaddyTheInvestor
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TSP Loan vs Credit union Loan

Post by DaddyTheInvestor »

I am considering whether I should use a TSP or Credit Union loan to finance the purchase of our next vehicle. First here are a few basic facts:

1. Currently our only debt is our home mortgage and one vehicle loan. The vehicle being replace is fully paid off.
2. We typically own our vehicles 10+ years before replacing them and repay the purchase loan within three years (often less).
3. Our retirement savings (and savings rates) are significantly above the nation's average.
4. For our investments, we have an established asset allocation and we rebalance on a regular basis to maintain that allocation across our entire portfolio (of which our TSP is only a portion).
5. The proposed amount of the TSP loan (i.e. car loan) is less than the current balance in our G Fund.
6. Current TSP loan rate: 2.25% APR for 60 months
7. Current Credit Union loan rates: 2.0% APR for 36 months, 2.4% for 60 months
8. I have 10+ years until my retirement window opens up.

According to the TSP website:

Direct Costs

Loan Fee. The TSP charges a loan fee of $50 for administrative expenses. The TSP deducts the fee from your loan proceeds. For example, if you request a loan for $1,000, the amount paid to you will be $950.

Interest. The interest rate on your TSP loan is the G Fund rate at the time your loan application is processed. This rate is fixed for the life of the loan. Although TSP loan interest is not tax-deductible, all of the interest goes back into your TSP account.

Indirect Costs

Indirect costs include sacrificed earnings. When you take a TSP loan, you sacrifice the earnings that might have accrued on the borrowed money, had it remained in your TSP account.

Although you pay the loan amount back to your TSP account with interest, the amount of interest paid may be less than what you might have earned if the money had remained in your TSP account.
Based on the facts I presented, I believe it is possible to mitigate away the TSP loan indirect costs by effectively taking the loan only from the G Fund balance. I would do this by making an inter-fund transfer after the loan processes to reestablish the pre-loan balances in the F, C, S, and I funds. I would then be repaying the TSP loan at the G Fund interest rate and the interest payments get put back into my TSP account. The only performance hit I can see is if the G fund interest rates increase over the next three to five years. However, they would have to increase significantly to out weigh the completely lost interest payments to the credit union. And if we do experience significant increases in G Fund rates, I can always repay the loan early with money from my other fixed interest investments that may be earning lower interest rates.

Is there anything I'm missing? Do this sound like a reasonable use of a TSP loan?
Last edited by DaddyTheInvestor on Tue Aug 15, 2017 5:20 pm, edited 1 time in total.
navyitaly
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Re: TSP Loan vs Credit union Loan

Post by navyitaly »

Unless you have bad credit, why would you do this? And TSP charges $50 for the loan....this makes no sense, just take a vehicle loan..what am I missing? Do you not have a job (source of income), basis of repayment, or bad credit and can't get the lowest rates...
Topic Author
DaddyTheInvestor
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Re: TSP Loan vs Credit union Loan

Post by DaddyTheInvestor »

navyitaly wrote: Tue Aug 15, 2017 4:24 pm Unless you have bad credit, why would you do this? And TSP charges $50 for the loan....this makes no sense, just take a vehicle loan..what am I missing? Do you not have a job (source of income), basis of repayment, or bad credit and can't get the lowest rates...
You are missing a lot. I don't think you understand what a TSP loan is. Specifically, TSP = the Federal Government's Thrift Savings Plan (their version of a 401K retirement plan for all federal government employees).

First, in order to be able to take out a TSP loan, you have to be in a pay status with the federal government. So the answer to your question about a paying job is YES, it's a pre-requisite!

The $50 loan fee is much less than the total interest payments I would make to any credit union.

The TSP loan interest gets paid back into my TSP account. Therefore, I get the interest payments and they are not "lost".

My question has absolutely nothing to do about bad credit and not qualifying for a loan.

Bottom line, I'm trying to confirm which option is the "cheapest" option considering both direct and indirect costs. In other words, in the long run, which option will result in the larger net worth at the end of the loan period?
navyitaly
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Re: TSP Loan vs Credit union Loan

Post by navyitaly »

Being in the military I'm more than aware what TSP is...most credit unions like Navy Federal, etc you can do better than 2.5%...

Go to Lightstream unsecured auto loan 2.19%.
Digital Credit Union is 2.24%

2.5% is easy to beat so why do that?
Topic Author
DaddyTheInvestor
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Re: TSP Loan vs Credit union Loan

Post by DaddyTheInvestor »

navyitaly wrote: Tue Aug 15, 2017 4:45 pm Being in the military I'm more than aware what TSP is...most credit unions like Navy Federal, etc you can do better than 2.5%...

Go to Lightstream unsecured auto loan 2.19%.
Digital Credit Union is 2.24%

2.5% is easy to beat so why do that?
Thanks for catching my typo on the TSP loan rate. It is 2.25% not 2.5%. Also, the credit union rates I quoted are the current Navy Federal rates. The reason I would choose a TSP loan is because I would be paying the interest to myself and not to a credit union. In other words, from a loan perspective it acts like a 0% interest loan with only a $50 initiation fee. I would much rather pay $50 versus over $1000 in interest assuming no or minimal impact to my TSP performance during the relatively short period of time I would take to repay the loan.

And thank you for your service.
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dm200
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Re: TSP Loan vs Credit union Loan

Post by dm200 »

These are two very, very different "things".

A credit union loan is actually (probably low interest rate) a loan.

The TSP "loan" is actually a redemption of the investment and repurchase of the investment (or another investment) with more that is called "interest".

Go with the actual loan from a credit union.
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DaddyTheInvestor
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Re: TSP Loan vs Credit union Loan

Post by DaddyTheInvestor »

dm200 wrote: Tue Aug 15, 2017 5:27 pm These are two very, very different "things".

A credit union loan is actually (probably low interest rate) a loan.

The TSP "loan" is actually a redemption of the investment and repurchase of the investment (or another investment) with more that is called "interest".

Go with the actual loan from a credit union.
Thanks, I understand the difference you mention. However, I am more interested in your rationale for choosing a "traditional" credit union loan especially given the difference in net value between the two options.
CWhea1775
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Re: TSP Loan vs Credit union Loan

Post by CWhea1775 »

The benefit of this approach is that you are accruing the interest to your advantage by having it paid into your deferred account rather than to the CU. The disadvantage is that you are putting after-tax dollars into a deferred account. Ideally I guess you would pay cash for the car, max out your deferred contributions, and save any extra in taxable accounts where they were invested in something that would generate tax-advantaged capital gains and dividend income, but if you have to take out a loan to buy the car either one of the approaches work. Just make sure they don't impact your ability to defer the maximum amount each year.
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dm200
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Re: TSP Loan vs Credit union Loan

Post by dm200 »

DaddyTheInvestor wrote: Tue Aug 15, 2017 5:35 pm
dm200 wrote: Tue Aug 15, 2017 5:27 pm These are two very, very different "things".
A credit union loan is actually (probably low interest rate) a loan.
The TSP "loan" is actually a redemption of the investment and repurchase of the investment (or another investment) with more that is called "interest".
Go with the actual loan from a credit union.
Thanks, I understand the difference you mention. However, I am more interested in your rationale for choosing a "traditional" credit union loan especially given the difference in net value between the two options.
I can't do or cite a detailed analysis - but I believe the flaw in your logic is that you have chosen a part of your TSP on a low return choice.
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DaddyTheInvestor
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Re: TSP Loan vs Credit union Loan

Post by DaddyTheInvestor »

dm200 wrote: Tue Aug 15, 2017 5:43 pm
DaddyTheInvestor wrote: Tue Aug 15, 2017 5:35 pm
dm200 wrote: Tue Aug 15, 2017 5:27 pm These are two very, very different "things".
A credit union loan is actually (probably low interest rate) a loan.
The TSP "loan" is actually a redemption of the investment and repurchase of the investment (or another investment) with more that is called "interest".
Go with the actual loan from a credit union.
Thanks, I understand the difference you mention. However, I am more interested in your rationale for choosing a "traditional" credit union loan especially given the difference in net value between the two options.
I can't do or cite a detailed analysis - but I believe the flaw in your logic is that you have chosen a part of your TSP on a low return choice.
If I understand what you are saying, I think I agree. That's was the point of my original message, with my current asset allocation, the balance of my G Fund is large enough to cover the purchase price of the car. Therefore, unless I'm missing something, I can't see a down side to using a TSP loan. I will be leaving the current balances untouched in the other funds which admittedly have better long term returns. I'm only touching the G Fund balance and replenishing it and the earnings through the "interest" payments.
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grabiner
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Re: TSP Loan vs Credit union Loan

Post by grabiner »

If you take your TSP loan from the G fund, then you are effectively borrowing at the G fund rate; while you are paying yourself back, you miss the growth that the money would have had if it had been in the G fund.

It's easiest to see this if you assume that it was a one-year, single-payment loan (ignoring the fee for now). You borrow $10,000, and you pay $10,225 back. If you had left the $10,000 in the G fund, it would have grown to $10,225. Therefore, you borrowed at a 2.25% annual percentage rate, non-deductible. The fee adds a bit to this.

So for your comparison, if you took out a three-year loan, you would pay a higher rate on the TSP loan than on the credit union loan. If you took out a five-year loan, you would pay about the same rate.

You may also need to consider other costs. If you take out a loan from the credit union, the credit union may require you to have a $500 deductible on collision and comprehensive insurance, which could be an extra cost.
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Topic Author
DaddyTheInvestor
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Re: TSP Loan vs Credit union Loan

Post by DaddyTheInvestor »

CWhea1775 wrote: Tue Aug 15, 2017 5:42 pm The disadvantage is that you are putting after-tax dollars into a deferred account.
I don't understand this statement. The original contribution I made to the TSP (i.e. the one I would be borrowing against) already received the tax benefits when they went in. Therefore, no one should expect to get a second tax advantage by simply taking out a loan and then repaying it back into the TSP. Additionally, as compared to taking out a traditional loan from a credit union or bank, those payments are also made with after-tax dollars. Therefore, I see no difference and thus it wouldn't be a disadvantage.
CWhea1775 wrote: Tue Aug 15, 2017 5:42 pm Ideally I guess you would pay cash for the car, max out your deferred contributions, and save any extra in taxable accounts where they were invested in something that would generate tax-advantaged capital gains and dividend income, but if you have to take out a loan to buy the car either one of the approaches work. Just make sure they don't impact your ability to defer the maximum amount each year.
I agree. However, paying cash would lower the cash position in my non-tax deferred accounts below an acceptable margin. Therefore, borrowing from the TSP and fully restoring the borrowed amount and earnings at today's current rate of return seems like the next best option. I would continue to max out all available tax-advantaged accounts (TSP, IRA, ESAs, 529 plan, etc.) and maintain current taxable account contributions minus the monthly loan payments.
retiredjg
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Re: TSP Loan vs Credit union Loan

Post by retiredjg »

I'm not opposed to borrowing from the TSP for an emergency. This is not an emergency. Either save up the cash to get your car or get an ordinary loan.

Don't put your retirement money at risk. Things happen.
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Re: TSP Loan vs Credit union Loan

Post by jimb_fromATL »

DaddyTheInvestor wrote: Tue Aug 15, 2017 9:46 pm
dm200 wrote: Tue Aug 15, 2017 5:43 pm
DaddyTheInvestor wrote: Tue Aug 15, 2017 5:35 pm
dm200 wrote: Tue Aug 15, 2017 5:27 pm These are two very, very different "things".
A credit union loan is actually (probably low interest rate) a loan.
The TSP "loan" is actually a redemption of the investment and repurchase of the investment (or another investment) with more that is called "interest".
Go with the actual loan from a credit union.
Thanks, I understand the difference you mention. However, I am more interested in your rationale for choosing a "traditional" credit union loan especially given the difference in net value between the two options.
I can't do or cite a detailed analysis - but I believe the flaw in your logic is that you have chosen a part of your TSP on a low return choice.
If I understand what you are saying, I think I agree. That's was the point of my original message, with my current asset allocation, the balance of my G Fund is large enough to cover the purchase price of the car. Therefore, unless I'm missing something, I can't see a down side to using a TSP loan. I will be leaving the current balances untouched in the other funds which admittedly have better long term returns. I'm only touching the G Fund balance and replenishing it and the earnings through the "interest" payments.


It could work if you could take money only from the G-Fund and put it back only in the G-fund. But according to THIS the TSP is like a lot of 401(k) plans that do not allow you to make the payments to a single fund.
    • "...When you borrow from your TSP account, the loan is disbursed proportionally from any traditional (non-Roth) and Roth balances in your account.

      ... If your TSP account is invested in more than one fund, your loan is deducted proportionally from the employee contributions (and earnings on those contributions) that you have in each fund. Your total account balance is decreased by the amount of your loan.

      When you repay your loan, your payments (including interest) are deposited back into the traditional (non-Roth) and Roth balances of your account in the same proportion used for your loan disbursement. The repayment amount is invested in your TSP account according to your most recent contribution allocation.

      The loan interest rate you pay for the life of the loan will be the G Fund’s interest rate that is in effect on the date that your Loan Agreement is generated..."
...So it appears to me that if your allocation of funds earns more than the TSP loan rate, you'll lose money because you're paying yourself back at a lower rate than the new contributions would be earning. And it's not just the money during the loan period. Any deficit in the account at that point will compound for the rest of your life until you withdraw the money. That can run into substantially less earnings over a lifetime than you might save on a commercial loan in the short run.

It could still work if your crystal ball can predict that there's going to be a market crash so bad that none of your funds will be earning as much as the current G-fund rate for the life of the loan.

jimb
c.Alvin
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Re: TSP Loan vs Credit union Loan

Post by c.Alvin »

O.P. > "Current Credit Union loan rates: 2.0% APR for 36 months, 2.4% for 60 months"

Basically, you are betting the G-Fund will stay below 2.4% annually for the next 60 months. I have used TSP loans a couple of times myself, but this bet looks like a loser.


c.Alvin
DCChak
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Re: TSP Loan vs Credit union Loan

Post by DCChak »

Personally, with CU loans that close in interest to the TSP loan, I'd stick with the CU loan (assuming the size of your monthly payment isn't a big concern).

Lots of other threads here on TSP loans, including this one & the links within it - viewtopic.php?f=10&t=222699&p=3437283#p3437283
Bob's not my name
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Re: TSP Loan vs Credit union Loan

Post by Bob's not my name »

They're essentially equivalent. Either way, your wallet pays back the principal and interest. You are correct that your TSP comes out about the same whether you borrow from it or not. So the outcomes for both your wallet and your TSP are roughly the same. I think you are overlooking the fact that your wallet pays out the principal and interest in both scenarios.
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Re: TSP Loan vs Credit union Loan

Post by grabiner »

jimb_fromATL wrote: Wed Aug 16, 2017 9:33 amIt could work if you could take money only from the G-Fund and put it back only in the G-fund. But according to THIS the TSP is like a lot of 401(k) plans that do not allow you to make the payments to a single fund.
However, you can reallocate freely. If you take out a loan of $20,000 which is taken as $16,000 from stock funds and $4000 from the G fund, you can immediately move $16,000 from the G fund to the stock funds, creating the same effect as if you had taken the loan from the G fund.
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Bastiat
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Re: TSP Loan vs Credit union Loan

Post by Bastiat »

Bob's not my name wrote: Wed Aug 16, 2017 7:32 pm They're essentially equivalent. Either way, your wallet pays back the principal and interest. You are correct that your TSP comes out about the same whether you borrow from it or not. So the outcomes for both your wallet and your TSP are roughly the same. I think you are overlooking the fact that your wallet pays out the principal and interest in both scenarios.
But with the TSP loan, the interest goes back into your own account.

With a CU loan, the interest goes into the bank's "wallet".

2 reallocations per month make any allocation concerns moot.

I still have not seen a solid rationale in this thread as to why the OP should not do the TSP loan in the manner he describes.
Helo80
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Re: TSP Loan vs Credit union Loan

Post by Helo80 »

Bastiat wrote: Wed Aug 16, 2017 8:02 pm But with the TSP loan, the interest goes back into your own account.

With a CU loan, the interest goes into the bank's "wallet".

2 reallocations per month make any allocation concerns moot.

I still have not seen a solid rationale in this thread as to why the OP should not do the TSP loan in the manner he describes.


Agreed --- I am honestly confused as well. I'd rather have the loan principle + interest go back into my TSP. But, if the market continued to do well over the next 3-5 years, it'd probably be better to go the CU route.
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Re: TSP Loan vs Credit union Loan

Post by ThrustVectoring »

Take the credit union loan, 100%.

First off, the TSP loan can be used for any purpose, and you might need it later.

Second, the TSP loan must be repaid immediately when you leave your government job. This is more of a big deal than you'd think.
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retiredjg
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Re: TSP Loan vs Credit union Loan

Post by retiredjg »

Bastiat wrote: Wed Aug 16, 2017 8:02 pm
Bob's not my name wrote: Wed Aug 16, 2017 7:32 pm They're essentially equivalent. Either way, your wallet pays back the principal and interest. You are correct that your TSP comes out about the same whether you borrow from it or not. So the outcomes for both your wallet and your TSP are roughly the same. I think you are overlooking the fact that your wallet pays out the principal and interest in both scenarios.
But with the TSP loan, the interest goes back into your own account.

With a CU loan, the interest goes into the bank's "wallet".
But while the money is out of the TSP it is not making money because it is not invested. If it were invested, it could be making a lot more than that little bit of interest.

Messing with retirement accounts for reasons other than an emergency is just a bad idea.
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Re: TSP Loan vs Credit union Loan

Post by grabiner »

retiredjg wrote: Wed Aug 16, 2017 9:13 pm
Bastiat wrote: Wed Aug 16, 2017 8:02 pm
Bob's not my name wrote: Wed Aug 16, 2017 7:32 pm They're essentially equivalent. Either way, your wallet pays back the principal and interest. You are correct that your TSP comes out about the same whether you borrow from it or not. So the outcomes for both your wallet and your TSP are roughly the same. I think you are overlooking the fact that your wallet pays out the principal and interest in both scenarios.
But with the TSP loan, the interest goes back into your own account.

With a CU loan, the interest goes into the bank's "wallet".
But while the money is out of the TSP it is not making money because it is not invested. If it were invested, it could be making a lot more than that little bit of interest.
The OP intends to take the loan with money that would be in the G fund, where it would be making about the same amount of interest as he would otherwise pay on the loan, and he keeps the same amount of risk by having the same stock holding whether he takes out the loan or not.
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retiredjg
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Re: TSP Loan vs Credit union Loan

Post by retiredjg »

grabiner wrote: Wed Aug 16, 2017 10:09 pm
retiredjg wrote: Wed Aug 16, 2017 9:13 pm
Bastiat wrote: Wed Aug 16, 2017 8:02 pm
Bob's not my name wrote: Wed Aug 16, 2017 7:32 pm They're essentially equivalent. Either way, your wallet pays back the principal and interest. You are correct that your TSP comes out about the same whether you borrow from it or not. So the outcomes for both your wallet and your TSP are roughly the same. I think you are overlooking the fact that your wallet pays out the principal and interest in both scenarios.
But with the TSP loan, the interest goes back into your own account.

With a CU loan, the interest goes into the bank's "wallet".
But while the money is out of the TSP it is not making money because it is not invested. If it were invested, it could be making a lot more than that little bit of interest.
The OP intends to take the loan with money that would be in the G fund, where it would be making about the same amount of interest as he would otherwise pay on the loan, and he keeps the same amount of risk by having the same stock holding whether he takes out the loan or not.
In this case, yes. I took Bastiat's question to be more general, but perhaps that was incorrect.

Nevertheless, this is a risk that does not need to be taken. Occasionally people do leave government jobs unexpectedly. The loan would have to be repaid immediately if that happened. Since there is no obvious and significant benefit to using the TSP rather than the credit union, why do it?
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Re: TSP Loan vs Credit union Loan

Post by retiredjg »

DaddyTheInvestor wrote: The vehicle being replace is fully paid off.... We typically own our vehicles 10+ years before replacing them and repay the purchase loan within three years (often less).
I know this is not what you asked, but it might affect your "next time".

When you finish paying off this vehicle, continue to put an amount equal to the monthly payment into a savings account. By the time you need your next vehicle, you'll have the cash to pay for it. That way, your car payments actually earn interest instead of your having to pay interest to a bank for the privilege of using their money.

I adopted this approach (I think it may have come from Dave Ramsey) 30 or so years ago and always paid cash for my cars after that - even though I was never a high wage earner.
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