Should we really be saving all of our money in the TSP? Should we really be setting everything aside for our retirement – at the expense of other savings goals?
The recent 35-day partial government shutdown brought this question to the forefront. There were news stories about furloughed federal employees going to food pantries and starting “go fund me” pages. The Coast Guard’s Employee Assistance Program suggested that furloughed employees consider pet sitting or having garage sales; they even advised against filing bankruptcy. Are federal employees really so financially fragile that going a month without pay (while knowing that they will be paid eventually) causes widespread panic?
While saving for retirement through the TSP and other tax advantaged options (e.g., IRAs) is important, tax advantaged accounts come with restrictions. The TSP puts it well in their booklet, Summary of the Thrift Savings Plan, when they say, “Because the purpose of the TSP is for you to save money for your retirement, there are rules that restrict when and how you may take money out of your account while you are still employed.” Those restrictions apply to both TSP loans and in-service hardship withdrawals.
The Thrift Board just changed the rules on who is entitled to take a loan so that those who are furloughed can more easily borrow money from their TSP. The new rules apply to federal workers who are either furloughed or forced to work without pay during a lapse in appropriations. Until the change, any employee in non-pay status was eligible to take out a loan, so long as that status was expected to last less than 30 days. Now affected employees will be able to apply for TSP loans regardless of how long the non-pay status is expected to last. During political theatrics, like the recent partial shutdown, only the Lord knows how long the non-pay status will last. Loans went up by 5% during the shutdown and would have gone up by a higher percentage had the new rules been in effect.
The Thrift Board tells us that in-service hardship withdrawals went up by a whopping 26% during the recent unpleasantness. A hardship withdrawal is far more hazardous to your TSP account than is a loan. You can re-pay a loan, but a withdrawal will permanently deplete your account. Plus you will have to pay taxes on the money you withdraw and, depending on your age, an early withdrawal penalty. But wait, there’s more! A person who takes a hardship withdrawal is prohibited from contributing to the TSP for six months.
We should not be in a position where our alternatives are walking dogs, holding garage sales or raiding our retirement savings. What we need is an old fashioned emergency fund. Financial planners suggest that we have three months to a year’s worth of expenses set aside in an easily accessible emergency fund. As federal employees, with relatively secure employment, we can probably get by with three months in our emergency fund. With rising interest rates, “easily accessible” no longer means earning no interest or extremely low interest. A recent search on bankrate.com showed several online banks that were FDIC insured and had interest rates between 2% and 2.5% with no minimum balance required. While it may be a little harder to take money out of an online bank than the bank at the corner, you can still quickly retrieve your money in the case of an emergency.
If you must reduce your TSP contributions to be able to start an emergency fund – do it. Just don’t drop below the 5% contribution rate that guarantees you the full agency (FERS) or service (BRS) match.
With an emergency fund, you will be prepared for any future negative events and – if there’s no emergency – you can still use the money for retirement at a later date.