TSP estate planning
Thrift Savings Plan participants should be aware of IRS rules for eligible employer retirement plans and TSP-specific beneficiary rules in order to optimize their estate planning.
Much like other retirement accounts, TSP account holders may designate beneficiaries for their account.
Important terms for account holders and beneficiaries are summarized below:
|TSP Participant||The actual TSP account holder who is a Federal or armed services employee.|
|Direct beneficiary||Any beneficiaries of a TSP account when the TSP participant dies. These may be primary or contingent beneficiaries.|
|Beneficiary participant||If one of the direct beneficiaries was the TSP participant's spouse, then the spouse may choose to retain the TSP account. Upon doing so, the surviving spouse becomes a TSP holder, but as a beneficiary participant and not as an ordinary TSP participant. Per TSP rules, only a surviving spouse can become a beneficiary participant. As described elsewhere, beneficiary participants do not have as many abilities as ordinary TSP participants.|
|Successor beneficiary||A beneficiary participant can designate beneficiaries for when the beneficiary participant dies. Anyone who inherits a TSP account from a beneficiary participant is a successor beneficiary.|
Following are several examples of estate planning scenarios using the terms above. See Figure 1 diagram illustrating these scenario:
- Fran is a Federal employee and a TSP participant
- Harry is Fran's husband. He is not a Federal employee.
- Debra is Harry and Fran's daughter.
Fran dies. Fran's beneficiary designations leave 70% of her TSP balance to Harry and 30% to Debra. Harry and Debra are both direct beneficiaries. Debra cannot hold a TSP account since she is a not the account holder's spouse, and chooses instead to rollover her death benefit into an inherited IRA. Harry, as the spouse of TSP participant, has several options as illustrated below.
Scenario 1 - Beneficiary Participant Stays in TSP
See Figure 1 illustrating this scenario
Harry keeps the TSP as a beneficiary participant, and designates Debra as his primary beneficiary of his beneficiary TSP account.
Harry dies and Debra, as Harry's primary beneficiary, becomes a successor beneficiary. The TSP issues a taxable distribution to Debra.
If Harry's goal was to maximize the value of his daughter's inheritance, then this strategy is flawed because Debra must report her benefit as a taxable distribution.
Scenario 2 - Beneficiary Participant Rolls Over TSP into Inherited IRA
Instead of staying in the TSP as a beneficiary participant after Fran dies, Harry instead chooses to roll over the TSP funds into his IRA. Since Harry was Fran's spouse, he can transfer Fran's TSP into his own IRA instead of being required to set up an inherited IRA. At this point, the original TSP account is permanently closed.
Harry sets Debra as the beneficiary of his IRA. Upon Harry's death, Debra can establish an inherited IRA from her father's IRA, thereby preserving the tax-advantaged state of the funds.
If Harry's goal was to maximize Debra's inheritance, then this is the ideal strategy. See Figure 2 for an illustration of this scenario.
Scenario 3 - Beneficiary Participant Stays in TSP and Bequeaths to Charity
Similar to Scenario #1, Harry stays in the TSP as a beneficiary participant and chooses a charitable organization as his TSP beneficiary. Upon his death, the charitable organization will inherit his TSP as a distribution. Since this kind of distribution is generally tax-free to the receiving charitable organization, this is a good strategy if the goal is to benefit a charity.
If, however, Harry is leaving other taxable assets to heirs, then Harry could arguably arrange his estate in a better way to maximize the post-tax value to his heirs, e.g. leave taxable assets to the charity (who likely will not need to pay the taxes) and leave tax-advantaged assets like an IRA (created from the TSP he inherited from Fran) to individual heirs who would have paid taxes on taxable assets.
A beneficiary participant is a spouse who inherited a TSP participant's account.
Although in most respects a beneficiary participant is just like an ordinary TSP participant, a beneficiary participant has certain important restrictions compared to ordinary TSP participants.
Rollovers and transfers
Successor beneficiaries of direct beneficiary
|Successor Beneficiaries of TSP Beneficiary Participants|
|“[T]here is a very important tax planning issue to keep in mind about a beneficiary participant account. When the beneficiary spouse dies, his/her [successor] beneficiaries may not transfer or roll over the money to an IRA. The money left in the account must be paid to the successor beneficiary(ies) as a single payment and may not be transferred or rolled over to an IRA. This could create a tax burden on the beneficiaries of the spousal account. (This is not a TSP rule, but an outcome required by the Internal Revenue Code.)”|
|Kim Weaver, director of external affairs for the Federal Retirement Thrift Investment Board, Sept. 25, 2014.|
As an eligible retirement plan, the TSP (like 401(k), 403(b) and 457 plans) must observe IRS rules regarding successor beneficiaries of direct beneficiaries. As described in 401(k) successor beneficiaries, successor beneficiaries may not rollover an inherited account to an inherited IRA.
According to the TSP, "If a beneficiary participant dies, the new beneficiary(ies) [successor beneficiaries] cannot continue to maintain the account in the TSP. Also, the death benefit payment cannot be transferred or rolled over into any type of IRA or plan."
The inability of a successor beneficiary of a TSP to create an inherited IRA with his or her death benefit portion of a TSP is a significant consideration with estate planning, as it could leave the successor beneficiary with a large taxable distribution. Therefore, spousal survivors who inherit their deceased spouse's TSP may wish to consider rolling the TSP into an IRA if they wish to preserve the tax-advantaged status of these assets for their own beneficiaries; see Figure 2 on this page illustrating this scenario.
- TSP Beneficiaries at TSP.gov
- Your Beneficiary Participant Account at TSP.gov
- Death Benefits: Information for Participants and Beneficiaries at TSP.gov, located at TSP Beneficiaries
- Your TSP Account: A Guide for Beneficiary Participants at TSP.gov
- Mike Causey (Sep 25, 2014). "Why it's important to check your TSP account before you really check out!". FederalNewsRadio.com. Retrieved Mar 2, 2017.
- Death Benefits: Information for Participants and Beneficiaries, p. 11, at TSP.gov, located at TSP Beneficiaries
- Bogleheads® forum topic: . 25 September 2014
- Bogleheads® forum topic: . 2 October 2014
- Bogleheads® forum topic: . 24 September 2016