Page 53 - The Informed Fed--Hearn Wealth Management

The TSP also has a lot of the same pitfalls of the 401k. First, it was
originally designed as a tax shelter, but has never been as effective as

intended. In a 401k, taxes are deferred on contributions while an
employee is working and are assessed as income when the funds are
withdrawn during retirement. The theory was that this would be at a

lower tax rate, thereby creating a tax shelter on both the contributions
and the earnings. The tax savings have been minimal from the beginning.

The cost of living has steadily increased, as has the standard of living.
l Security

withdrawals from savings will frequently result in an end-of-year tax
bracket that is similar to pre-retirement rates, and those rates continue

to climb. In fact, most 401k funds that are withdrawn in retirement are
assessed at an equal or higher tax rate than they would have been when
they were deposited. Many retirees experience no tax savings through

401k income, and will see as much as one-third of their funds lost to
taxes.

Until an employee reaches the age of 59½, 401k funds are
inaccessible without penalty or interest. The IRS is your silent partner
who will demand their part during distributions. In fact, they will demand

their portion when you turn 72 years old. This is known as Required
Minimum Distribution. Because taxes have not been paid, the IRS

regulates those funds very carefully and has a vested interest in the
account. If you withdraw funds prior to age 59½, you must pay a 10%
penalty plus count the withdrawal as income for the year and pay taxes
accordingly. The exception to this rule is that if you leave service at age

55 or older, you can take distribution without incurring the 10%
premature distribution penalty. You will still be required to report this as

income in the year you take the distribution. This is unique to the TSP
program. To our knowledge, there are no other qualified plans that
provide this special IRS provision.

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