Traditional TSP versus Roth TSP

Note: As of 2018 the maximum you can contribute to you retirement account is $18,500. For this article I am going to use $18,000 maximum contribution over 20 years into your Thrift Savings Plan (TSP). For Non Federal employees who have come across this page the TSP is essentially the same as 401K and Roth 401k.

To start I would like to define the difference between the Tradition TSP and the Roth TSP.  With a Traditional TSP you receive a tax break. Meaning you will not pay taxes on that money while working but you will have to pay taxes on that money when you retire. With a Roth TSP that money is counted as part of your income so you pay taxes on that money while you work but all of that money including the growth is tax free in retirement. Now that we have the logistics out of the way lets continue. 

A common theme I hear is I can’t contribute to a Roth TSP because I need the tax break.  So I wanted to see if the numbers work in the long term. Would it benefit not only you but me to pay the taxes upfront by way of the Roth TSP or pay the taxes on your money when you retire? So I started with the premise that if I could contribute $18,000 a year over 20 years what that would be.

$18,000 a year at 8% annual interest means you deposit $1,500 a month or $693 a pay period.

Years	Total Principal	Interest Earned	Maturity Value
20	$360,000	$529,420.81	$889,420.83
25	$367,500	$559,617.50	$927,117.47

As you can see from the chart above your total contribution over 20 years will be $360,000. If you average 8% interest on your money over that time you will have $889,420.83.

According to 2017 tax bracket

Single Income		Married Filing Jointly		Head of Household
15%	$9,326-$37,950	15%	$18,651-$75,900	15%	$13,231-$50,800
25%	$37,951-$91,900	25%	$75,901-$153,100	25%	$50,801-$131,200
28%	$91,901-$191,650	28%	$153,101-$233,350	28%	$131,201-$212,500

Using the 2017 tax bracket for this next example I will assume that you are in a 25% income bracket. Now using our previous numbers that you are contributing $18,000 a year into your TSP, if you are in the 25% bracket it means you are getting a tax break of $4,500 ($18,000 x 0.25) a year if you invest in the Traditional TSP or you are paying and extra $4,500 a year if you invest in the Roth TSP. Now I know on the surface it looks as if it is a no brainer decision to get the tax break while working. Who wants to give the IRS an extra $4,500 of their money? Plus, over 20 years that will be $90,000 ($4,500 x 20) you will have paid to the IRS. 

 Let’s assume that at the time you retire you will no longer be in the 25% tax bracket but now you are in the 15% tax bracket. Now I know that 15% looks good. Hey, who wouldn’t want a 25% tax break while working to only pay 15% in taxes on your money after you retire? So, in order to decide which path was right for me to take I wanted to know what 15% of the $889,420.83 will be and is that number less than or equal to the $90,000 extra I would pay in taxes if I chose the Roth TSP. What I came up with is that it was much more at $133,413.12 ($889,420.83 x 0.15). Then looking at that and the fact that I have no plans in liquidating my account when I retire but to pull small percentages off per year while allowing my balance to continue to grow. Which means the amount of money I will be paying to the IRS will be even higher over my lifetime after I retire.

Calculating from where you stand now.

Now I know what your next questions will be. I am 10 years away from retirement, how do I see if the Roth TSP will work for me? I am not maxing out my retirement account; I am only investing $300 a paycheck. How will do I know if this is right for me? Well in the chart below I will show you how to calculate and decide if it is a good idea for new contributions to be allocated to the Roth TSP.

Before we start, most compound interest calculators ask for monthly deposit amount. So we have to convert the $300 a pay period (every two weeks) in to a monthly amount. $300 x 26 (pay periods a year) = $7,800/ 12 (months in a year) = $650.

Yearly Principle	Current Tax Bracket	Taxes +/-	Years until retirement	Total Taxes while working
$7,800	25%	$1,950	10	$19,500

Monthly Deposit	Years until retirement	Interest Rate	Total Principle	Interest Earned	Maturity Value
$650	10	8%	$78,000	$41,707.69	$119,707.69

Maturity Value	Retirement Tax Bracket	Total Taxes in Retirement
$119,707.69	15%	$17,956.15

Now looking at the “Total Taxes” from both charts you will see that there will be more taxes paid while working than in retirement.  But keep in mind that it is only about a $1,500 difference and if you plan to take small calculated withdrawals while allowing your balance to continue to grow it may still be a good idea to start the Roth TSP.  Plus the Roth portion of your retirement is all tax free when you make withdrawals. Oh and if you are wondering, you will still receive the employer match. The match will be deposited into your Traditional TSP portion of your account.

After running my calculations I decided that the Roth TSP was right for me now you have to decide if it is right for you.

Ms. Smart