What's the penalty for withdrawing from a thrift savings plan?

If you are considering withdrawing money from your Thrift Savings Plan, you may want to know the financial implications. Generally, while TSP savings are designed to be used when you retire, you may be allowed to access your money earlier due to financial hardship. However, early withdrawals will trigger taxes and penalties on the withdrawal.

If you withdraw money from TSP before you reach age 59 ½, you may be required to pay a 10% early withdrawal penalty on the taxable portion of the withdrawn funds. This is in addition to the federal income taxes, and applicable state income taxes. Any Roth contributions and associated earnings included in the withdrawal are not subject to federal income taxes.

What is a TSP financial hardship?

TSP allows participants to tap into their retirement savings during a financial emergency. Participants may be eligible to receive a financial hardship withdrawal if they are experiencing negative recurring cash flows or have a financial emergency such as an unpaid medical expense, legal fees incurred during divorce proceedings, or losses due to natural disasters.

While the financial hardship in-service withdrawal can you help you in a financial emergency, it may have financial implications. When you make an early withdrawal from your TSP, you won’t be able to replace the withdrawn funds, and you will lose out on the potential growth of those funds. Also, TSP is not designed to be a temporary savings account, and it should not be tapped into before you are at least age 59 ½. The withdrawal will be subject to federal income taxes and a 10% early withdrawal penalty if you are below age 59 ½. 

Conditions that qualify for TSP financial hardship withdrawal

TSP participants only qualify for financial hardship if they are active federal service civilian employees or members of the uniformed services. To be eligible for financial hardship, the financial need must result from any of these conditions:

Negative cash flow

If you have recurring negative monthly cash flow, you may be eligible for financial hardship. You will need to determine the negative cash flow using the Financial Hardship Withdrawal Request (Form TSP-76). You won’t be required to return this worksheet when requesting a hardship withdrawal, but you should maintain a copy of this worksheet.

Unpaid medical expenses

If you have unpaid medical expenses that are not covered by insurance, you can receive financial hardship to pay for these expenses. The expense must be due to an illness, injury, or other medical condition to you, your spouse, or other qualified dependents. You can also use the money to pay for special home improvements such as wheelchair ramps, modified doorways, and elevators required for medical care.

Personal casualty losses

If you have unpaid personal casualty losses including damages or loss of property due to a sudden and unexpected identifiable event such as earthquakes, hurricanes, fires, storms, or tornadoes, and they are not covered by insurance, you may be eligible for financial hardship. These losses can also result from automobile accidents that are not caused by willful negligence or destructive act.

Unpaid legal expenses for separation or divorce

If you are going through separation or divorce from your spouse, and you have unpaid legal expenses such as attorney fees and court costs, you can use the financial hardship to settle these costs.

Tax considerations of making withdrawals from TSP

When you make a withdrawal from your TSP account, there may be several tax implications. Usually, the TSP plan will automatically withhold 10% of the taxable portion of the withdrawal for federal income taxes, but you can adjust the withholding to any percentage you want.

The taxable portion of the withdrawal will be subject to federal income taxes at your ordinary income tax rate. Also, if your state taxes retirement income, you will pay state income taxes on the withdrawal. If you are below age 59 ½ when you make the withdrawal, you may be subject to an additional 10% early withdrawal penalty on the amount withdrawn.

Exemptions to the early withdrawal penalty

If you withdraw money from your TSP account before age 59 ½, you will owe federal income taxes and an additional 10% early withdrawal penalty on the taxable portion of the withdrawal. However, there are several circumstances when the 10% early withdrawal penalty may be exempted. 

Here are the exemptions to the 10% penalty:

TSP distributions received after you leave the federal service during or after you reach age 55.

TSP distributions received after leaving the federal service during or after you reach age 50, or have accumulated at least 25 years of service.

Up to $5,000 in TSP payments received within one year following a birth or qualified adoption.

TSP payments resulting from total and permanent disability or death.

TSP payments made in a year you have deductible medical expenses that exceed 7.5% of your adjusted gross income.

TSP distributions ordered by a domestic relations court.

TSP payments made from a beneficiary participant account.

Age 59 ½ In-Service Withdrawals

Age 59 ½ in-service withdrawals refer to the withdrawals that TSP participants can make when they reach age 59 ½ or older. TSP determines your age according to the date of birth reported by your federal agency or service.

If you are eligible for age 59 ½ withdrawals, you can only withdraw your fully vested funds. This includes the funds you are entitled to keep based on your years of federal service. Generally, you are always vested in your own contributions, agency/service matching contributions, and earnings from these contributions.

Additionally, the amount you withdraw must be at least $1,000 or the entire vested account balance. For every calendar year, you can take up to four age 59 ½ withdrawals. If you have two TSP accounts- a civilian account and a uniformed account, you can only withdraw money from the account associated with your current employment. If both TSP accounts are associated with your current employment, you can take withdrawals from both accounts.

When you make an age 59 ½ withdrawal, TSP will withhold 20% of the taxable portion of the withdrawal for federal income taxes. However, if you are rolling over to an IRA or other eligible retirement plan, there will be no tax withholding.