Federal employees, armed forces members, and all other uniformed services have a special lending plan at their disposal if they need to borrow money. The Thrift Savings Plan, or TSP for short, is a convenient investment and retirement plan that allows federal workers to borrow against their savings.
Understanding the advantages and caveats of this program is vital for enjoying the maximum benefits while avoiding any pitfalls that come with it.
What are TSP Loans?
TSP loans resemble 401(k) loans in that they allow you to draw money against a retirement account. A TSP loan caters to federal employees and offers advantages over other types of plans due to its backing by the federal government.
Types of Loans
The two types of TSP loans available to you as a federal employee are general purpose and residential loans. To maximize the funds you want to borrow, you can take out one of each type of loan concurrently, as long as you meet the eligibility criteria.
Residential TSP loans
A residential TSP loan helps you build or buy a primary residence. This covers homes, condos, boats, and RVs. Unlike home equity loans, you cannot use this type of loan for remodeling or refinancing, nor can you use a residential TSP loan to buy land.
However, a general TSP loan can be used for these. The term length on a residential TSP loan can span from 1 to 15 years, giving you the flexibility to make plans based on the size of monthly payment you prefer.
General TSP loans
General TSP loans are similar to personal loans that private banks offer. The uses for a general TSP loan are virtually unlimited. Term lengths for general TSP loans are between 1 and 5 years, and there are minimum and maximum amounts you can borrow.
How Do They Work?
Since a TSP loan draws from your TSP account, the government is essentially using your money to lend you funds. You repay the money into your account at a low interest rate that correlates to the average yield of U.S. Treasury securities.
Those who dread the hassle of endless paperwork will be happy to know that a TSP plan administrator takes care of the back-end tasks. These responsibilities include sending you the loan amount and returning it to your TSP account as you make your repayments.
Loan limits
TSP loans allow you to borrow from $1,000 to $50,000 if your TSP account savings cover the target amount. Remember that the total amount you can borrow must not exceed $50,000. This includes any TSP loans you have received in the preceding 12 months.
Repayment terms
The money to repay your TSP loan is withheld from your paycheck over time. However, it’s essential to understand that if you leave federal service before you complete the repayment of your TSP loan, the repercussions may involve a significant financial burden.
You only have 90 days to pay back the outstanding loan balance if this occurs. If the outstanding balance is significant and repaying it within three months is beyond your ability, the IRS considers it an early withdrawal, causing you to incur a penalty. You might find yourself owing income taxes, both federal and state.
Interest rates
The difference with borrowing from a private bank is that the funds for your loan come from your TSP account. In essence, you are paying yourself back with interest, so there’s more money in your TSP account than your borrowed amount. Currently, the interest rate for new TSP loans is 2.0%, but loan rates can vary according to the performance of U.S. Treasuries.
How Do You Get a TSP Loan?
Taking out a TSP loan is a simple three-step process.
1. Checking for eligibility
TSP loans are available to current federal employees. Leaving service does not qualify you for the program. You must have $1,000 of your vested account balance reached, and your status must be “active pay.” This simply means you are either working or on paid leave.
If you have any previous TSP loans, you must have paid them off a minimum of 60 days prior. You must also not have taken any taxable distribution from your TSP within the last 12 months and cannot have any outstanding court orders against you.
2. Filling out the application
You can apply for a TSP by signing into the online TSP platform. Once in the system, you will find a tool that helps you navigate the process. The TSP loan tool starts by asking you for basic information, including your marital status. You might need your spouse to sign a consent form if you are married.
If you are applying for a residential TSP loan, you must provide proof of address for the property you plan to purchase. This documentation must be from a third party.
The tool will take you through the process according to the information you submit. In many cases, you can complete the loan process online. However, sometimes you will need to print physical copies of the forms and mail them in. Whether the system prompts you to print the application or complete it electronically depends on various factors, including the type of TSP loan you requested, your marital status, and how you want to receive the funds.
3. Receiving your money
Completing the application online allows you to receive your money within 8 to 13 business days. Mailing in your paperwork can extend the timeline.
Your funds arrive as a check in the mail if you receive loan approval. Currently, you cannot receive the loan amount online. $50 comes out of your loan amount to pay administrative fees.
What are the Pros of TSP loans?
TSP loans allow federal employees to borrow funds at some of the lowest interest rates available. Rather than owing money to a private bank, the savings from your TSP account provide the source of capital.
Unlike with a financial institution, interest paid on the loan returns to you and accrues in your account, meaning you end up with more money in your TSP account at loan maturity.
Another benefit that may come in handy is your ability to put payments on hold if you are placed on non-pay status. This status includes leave without pay or being furloughed.
What are the Cons of TSP Loans?
The disadvantages of getting a TSP loan include making a lower rate of return than if you had selected a different investment opportunity. Taking out a TSP loan costs you less to pay back, but since you are paying yourself at a low rate, your money could potentially earn more in a different fund.
Taking out a TSP loan also doesn’t build your credit. You don’t have to worry about your credit being affected, but it also means that you cannot build up your score from your timely behavior.
The biggest potential pitfall lies in leaving federal service before paying off your loan. This can burden you with extra taxes and penalties that add to your total liability.
Finding the Best Loan
Doing your due diligence when looking for the best loan for your needs can keep you from risking your retirement savings. Learn more about what to consider when negotiating the terms of a loan and the best ways of paying your loan from Finance is us.
Disclaimer: All content on this site is information of a general nature and does not address the circumstances of any particular entity or individual, nor is the information a substitute for professional financial advice and services.
