401(k) vs TSP Accounts: Comparing Retirement Account Options

Author: Focus on the User | 9 min read
401(k) or TSP

Though they appear to be extremely similar, TSPs and 401(k)s are two different types of retirement savings plans. These financial strategies are great for saving hundreds of thousands of dollars for a luxurious retirement.

401(k) accounts are popular among those who work in the private sector, whereas TSP is popular with those who work for the government.

Both of these accounts offer various advantages regarding contribution caps, tax benefits, etc.

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401(k) pros and cons for retirement

401(k) is a common retirement account that is offered by the workplace. It is also referred to as an employer-sponsored retirement plan. Through a 401(k), employers provide their employees with an opportunity to fund their retirement savings.

Moreover, a 401(k) follows the concept of an employer-match contribution plan. Hence, you won't be the only one contributing to your account.

There are two different types of 401(k) accounts. One is a traditional 401(k), and another is a Roth 401(k). Both accounts differ in terms of the income taxes that are charged. With a Roth account, you get tax advantages in your retirement. In a traditional account, your contributions are made pre-tax, while in a Roth account, they are made after-tax.

You can easily open a 401(k) account by informing your employer about the amount of money you would like to contribute. This amount will then be deducted from your paycheck and added to your 401(k). Next, your employer will contribute by matching a certain percentage of what you have contributed through an employer match. Hence, you are getting free money.

Compared to many other retirement accounts, 401(k) has higher annual contribution limits. In 2022, you can make maximum contributions of $20,500, and participants aged over 50 can make an additional $6500 catch-up contribution.

Benefits of a 401(k)

Greater Contribution Limits

Compared to other investment plans, a 401(k) has higher contribution limits annually.

Employer-Sponsored Retirement Plan

Contributions of money are made through company-match, aside from your own. Both employee contributions and agency contributions aid in the expansion of your account.

Employer match ensures you will always receive extra funds to maximize your savings. This strategy allows you to receive free money from your employer's contributions, resulting in financial benefits.

Taxable Income is Less

You pay less income tax when you contribute to a 401(k). Your taxable income is decreased because your contributions are deducted from your paycheck before they are taxed. And you will have to pay taxes once you withdraw your funds. This is the case for a traditional 401(k) account.

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Drawbacks of a 401(k)

Not Offered By All Employers

Even though offering a 401(k) account is a nice perk, not all employers or businesses will be open to the idea. Some do not provide the incentive of a 401(k), and some have certain conditions that need to be fulfilled. This is because there might be less number of employees hence greater administrative expenses. Businesses often do not give these accounts as soon as you start working there; instead, there is employee eligibility, meaning that you must have been employed for a specific period before you are eligible.

Fewer Investment Options

Your investment choices are limited because a 401(k) is an employer-sponsored plan. The common investment options are mutual funds, real estate funds, bond funds, foreign funds, individual stocks, etc. Therefore, investment allocation is hindered.

Tax Deductions at Withdrawal

With a traditional 401(k) account, the money you contribute will be added pre-tax. This means that before the income tax is cut, the agency will deduct the amount for your contribution from your paycheck. You won't have to pay the tax for that deducted amount at that time. However, you will be supposed to pay for it when you withdraw your money according to that time's tax rate and tax bracket.

With a Roth 401(k) account, you won't have to pay taxes at withdrawal. With a 401(k) you have the option to convert 401(k) to gold as a way to diversify your portfolio assets.


TSP pros and cons for retirement

TSP stands for Thrift Savings Plan. It is similar to a 401(k) retirement plan. However, it is based on federal employees. Moreover, uniformed service members, military service, and civilian employees can also benefit from this plan.

The TSP is a contribution-based plan, like the 401(k). In a Thrift Savings Plan, the federal government serves as your employer. Furthermore, your retirement savings account will receive a fixed amount from the federal agencies regardless of your contribution.

Similar to a 401(k), TSP also has two types. Traditional TSP and Roth TSP. Traditional TSP contributions are made before tax, which lowers your taxable income, but taxes need to be paid at the time of withdrawal.

While contributions to the Roth TSP are not tax-deductible, no taxes are due upon withdrawal. You used to be limited to one partial withdrawal every single payment for a while, but the TSP is now more flexible.

TSP participants can get hold of their retirement money by setting installment payments on the fixed dollar amount or calculated through life expectancy-related data.

From your paycheck, the TSP contributions are deducted. You will get a guaranteed monthly income through a monthly payment if you participate in the TSP.

In 2022, the annual limit for TSP is $20,500, and if you are 50 or above, you can make an additional $6500 catch-up contribution. An annual dollar limit limits the catch-up contributions. With TSP, you can take age-based in-service withdrawals.

Suppose you are no more working for the federal service or government sector. In that case, you can still transfer the TSP funds of your traditional or Roth TSP to a traditional or Roth Individual Retirement Account.

Benefits of a TSP

Fewer Management Fees

Registration is easy with a TSP. The management fees are very low and not a burden. There is rarely any advisory fee associated with a TSP.

Automatic Contributions

With a TSP, you do not have to contribute anything to your TSP, and you will still have the government contributing an amount equal to 1% of your pay. TSP facilitates automatic employer contributions.

Moreover, when you contribute to a TSP, the federal employer can match up your contribution up to 5% of what you earn.

Easy Transfer of Funds

You can easily transfer funds from a TSP to an IRA or any other eligible employer plan and vice versa. Moreover, if you are no longer a federal employee, you can move your funds easily into your new retirement account.

Drawbacks of a TSP

Fewer Investment Choices

Many try to invest in as many commodities as possible in their retirement portfolio to boost their retirement nest egg. However, TSP has very few options for investment. You can't easily invest with any specific fund family or manager with a TSP. You can only invest in government bonds and equity security of public corporations.

401(k) has lower investment mix options, but TSP has even fewer options. Hence, compared to a TSP, 401(k) gives you more control of investments for your investment portfolio to achieve your retirement goals. TSP also does not let individuals invest in any emerging stock markets.

Should Be a Federal Government Employee

You can't benefit from a TSP if you are not a federal employee in the US. It does not matter whether you are a full-time employee or a part-time. Any regular citizen can't opt for a TSP.

Considering Youe Retirement Investment Account Options in 401(k) or TSP

If you are planning to enhance your retirement fund, you need to have active investment strategies. Many different retirement accounts enable you to boost your investment fund and provide you with retirement benefits. TSP and 401(k) accounts are two types of choices for retirement savings.

The two are workplace plans that include match-up contributions.

TSPs are ideal for those working in the federal sector and for civilian service as it is a great opportunity to secure your investment fund. Moreover, 401(k) is great for those working for private employers as they will benefit from employer contributions and increase their net savings.

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Disclaimer: Content on this website is not intended to be used as financial advice. It is not to be used as a recommendation to buy, sell, or trade an asset that requires a licensed broker. Consult a financial advisor.

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