When you leave your job at a federal agency, you might aim to move your thrift savings plan nest egg to combine it with your individual retirement account. Depending on what type of IRA you're rolling the TSP into, you might either not owe any taxes or you could be adding a sizable amount to your taxable income for the year.
Traditional IRA Rollovers
When you roll money from a traditional TSP into a traditional IRA, you don't have to pay any income taxes because you're moving money from one tax-deferred account to another. Like traditional TSP accounts, traditional IRAs offer a tax break for contributions, and distributions are taxable. If you have money in a Roth TSP, you're not allowed to roll the money to a traditional IRA because you'd be moving money from an after-tax account to a tax-deferred account.
Roth IRA Rollovers
When you move money from your TSP to your Roth IRA, you're going to owe taxes on any portion that comes from a traditional TSP account and would be taxable if you had taken a distribution instead. This is because you received an income tax break on the money that you put in, so if you could transfer it freely to a Roth IRA, you'd be able to take it out tax free. For example, if you were transferring $10,000 from your traditional TSP to your Roth IRA, you'd have an extra $10,000 of taxable income. However, if that $10,000 were coming from your Roth TSP, you wouldn't have any additional tax liability because the Roth TSP contributions are also made with after-tax contributions.
When you roll money from a traditional TSP to a Roth IRA, the taxable amount of the conversion gets added to your other ordinary income and taxed at your ordinary income tax rate. The IRS doesn't have a special tax rate for conversions. For example, say you're in the 33 percent tax bracket when you're converting $10,000 from your TSP to your Roth IRA. You're going to owe an extra $3,300 in income taxes because of the conversion.
If you're going to owe taxes as a result of the rollover, you always have to report the rollover. However, you also have to report any of your non-taxable rollovers on your tax return. On Form 1040, report the amount of the rollover on line 16a and the taxable portion, if any, on line 16b. Then write "rollover" next to it so the IRS knows what you did. If you're using Form 1040A, the total amount goes on line 12a and the taxable portion goes on line 12b.