Author – Joe Turkal, LtCol (Ret) USMC
Scheduled to begin on January 28, 2026, the Thrift Savings Plan (TSP) will allow in-plan Roth conversions. Few TSP owners are aware of this, and even fewer have insights into when this may be an advantageous step to take. This feature will be available to both active and inactive contributors. The TSP Board has set a minimum value that must be converted, and the mechanics of completing this step in TSP.gov are still a bit vague, but this can be of great value to certain individuals. Roth conversions must always be analyzed based on individual circumstances and articulated goals, but this article will highlight the most important circumstances where an in-plan TSP Roth conversion will be advantageous for individual TSP owners.
The intent of the article is not to fully educate on Roth (after-tax contributions) versus traditional (pretax contributions); rather, it is important to explain some basic characteristics for context.
Traditional contributions to the TSP are made pretax, meaning the contribution is placed into the retirement account before taxes are paid, which also has the effect of lowering one’s taxable income for the year of contribution. The critical piece of information to consider about traditional TSP contributions is that taxes on the principal (contribution amount) as well as all earnings on the principal are deferred. In other words, taxes on the principal and all gains have not been paid but will be paid when withdrawn (or converted).
Roth contributions are after-tax contributions. As such, the income is received by the individual (rather than directly contributed). The income is presently taxable, meaning the individual pays the taxes on the income in the year it is earned, and then it is contributed to the Roth TSP account (by the employer). The unique feature of Roth accounts is that the contribution (principal) has already been taxed, and gains can be withdrawn tax-free once they are qualified (usually after reaching age 59.5). This is a significant advantage for some, depending on individual circumstances and goals.
The primary goal of deferring taxes in retirement accounts is to defer taxes to such time, typically in retirement, when the individual’s tax bracket will be lower than at the time of contribution. This results in lower lifetime taxes. I often explain this in terms of a fundamental military tactic; to meet the enemy at a time and place of one’s own choosing to gain an overwhelming advantage. If we use this analogy to deferring taxes and consider taxes as the “enemy,” the objective is to pay those taxes at a time of one’s own choosing, when the total taxes paid will be lower.
When is it typically advantageous to defer taxes? In retirement, the typical U.S. worker relies on a modest amount of Social Security fixed income, and more so on retirement savings (e.g., a 401(k)). This often results in a lower tax bracket in retirement. One’s tax bracket for any given year is determined by taxable income in that year. The typical American will be in the highest tax bracket mid-to-late career when earning the highest income. At retirement, taxable income comes from modest Social Security payments and withdrawals from savings, typically resulting in a significantly lower tax bracket. This is ideal for individuals who have deferred taxes because they will likely pay lower total taxes and achieve the objective of paying those taxes at the time of their choosing at a lower rate.
Now consider many veterans and federal employees with a TSP account (the federal government’s equivalent of a 401(k)). These individuals often have considerable fixed income even in retirement due to a military or federal pension on top of Social Security. This is the opposite of the standard American retirement, which relies more heavily on retirement savings. This often results in military and federal employees being in a higher, the same, or a very similar tax bracket in retirement as before retirement. This is a classic case where Roth contributions are more beneficial than pretax. Remember, Roth contributions grow tax-free.
For military members (on the Blended Retirement System) and federal workers alike, the government typically matches up to 5% of one’s contributions into a TSP retirement account. This means that if an individual earns a $100,000 salary and contributes 5% or $5,000 into a TSP account, the government will match that amount and contribute 5% or $5,000 into the employee’s TSP account. Although the employee may contribute either to Roth TSP or traditional TSP, the government match is always contributed to the employee’s pretax traditional TSP. So, every military member or federal employee who receives the government match will have pretax retirement savings. If a service member or federal worker who ends up with a pension also chooses to contribute to the pretax traditional TSP, this can result in a much higher tax bracket in retirement than even at the peak of his or her career. This is because taxable income will come from Social Security, a pension, and withdrawals from pretax savings (which are taxable income).
The point of this article is to identify when it may be advantageous to do in-plan Roth conversions, but it is important to address some principles of financial prioritization first. Generally, quality financial planning will identify a prioritization for the “next dollar” spent. Before one considers Roth conversions, below is a list of financial priorities that should be addressed. These priorities were identified in a previous article titled A Roadmap for Financial Success (https://sierrahotelfinancial.com/a-roadmap-for-financial-success/):
- Adherence to the 60/20/20 budget rule
- Adequate insurance to mitigate high financial risk
- Contribute to workplace sponsored retirement savings plans to achieve the full employer match (if available)
- Pay off all high interest debt
- Build 3–12 months of emergency funds
Once the priorities above are addressed, here are a few characteristics that will generally make an in-plan Roth conversion advantageous:
- When there is a lengthy time horizon combined with high-risk capacity, allowing tax-free gains to grow before withdrawal, and when one is likely in one of the lowest tax brackets in life (characteristic of a young service member or federal employee).
- When the tax brackets are the same or similar before and after retirement (characteristic of an older service member or federal employee who has earned a military or federal pension).
The young service member or federal employee scenario. Let’s examine why it may be advantageous to convert pretax contributions in a TSP to Roth when one is young, in a relatively low tax bracket, has a lengthy time horizon, and high-risk capacity.
First, let’s address a relatively low tax bracket, which is the most important factor. Typically, one’s tax bracket will increase with career progression up to retirement. Remember, with pretax contributions, taxes are deferred on both the principal contribution and all gains while invested, and the advantage of pretax contributions is to defer taxes and withdraw in a lower tax bracket. With Roth contributions, the income is taxed before the contribution of the principal. The principal has already been taxed (in a relatively low tax bracket) and can be withdrawn tax-free. Additionally, the unique feature of Roth contributions is that all gains can be withdrawn tax-free once the gains are qualified (usually after age 59.5). These factors lead us to the golden rule for both Roth contributions and Roth conversions: the advantage of Roth over pretax exists when one is in a lower or equal tax bracket compared to the projected tax bracket in retirement when those funds will be withdrawn.
Additionally, a young service member or federal employee has a long-time horizon and high-risk capacity (i.e., someone in their 20s), assuming the individual is planning for retirement and intends to keep all contributions in retirement accounts until age 59.5. A person in his or her twenties has at least 29 years to allow contributions to grow. In financial planning, 29 years is usually considered a longtime horizon for investments. By its nature, a longtime horizon creates high risk capacity. Risk capacity is the ability to withstand market volatility due to a long time before withdrawals. In other words, someone with a longtime horizon is less concerned with shortterm volatility and more concerned with longterm growth. This differs from one’s risk tolerance, which is based on one’s personal attitude toward risk and will be set aside in this analysis.
An individual with a short time horizon has low risk capacity because a short-term drop in the market, timed just before withdrawals, can have a significantly negative impact. A young service member or federal worker with a long-time horizon and high-risk capacity can have an aggressive investment allocation aimed at achieving higher long-term returns and can tolerate volatility along the road to retirement. This is an ideal scenario for Roth contributions or Roth conversions; a relatively low tax bracket, a long-time horizon, high risk capacity, and an aggressive allocation that allows gains to grow tax-free until withdrawn.
The older service member or federal employee scenario. You may infer from the above that the older service member or federal worker has a short time horizon and thus low risk capacity. But do not jump to the conclusion that Roth conversions are not advantageous. These are factors to consider; however, remember the golden rule of conversions: the advantage of Roth over pretax exists when one is in a lower or equal tax bracket compared to the projected tax bracket in retirement when those funds will be withdrawn.
As explained earlier, an older service member or federal worker who has earned a pension often has the characteristic of being in a lower, equal, or similar tax bracket both before and after retirement. The pension, combined with Social Security, may keep them in a higher, equal, or very similar tax bracket in retirement. One might argue that if this individual has sufficient fixed income, they could choose not to withdraw pretax funds and instead let them grow to leave a legacy. Federal law does not allow this. Required Minimum Distributions (RMDs) are mandated under Internal Revenue Code Section 401(a)(9). All Americans between ages 72 and 75 (depending on birth year) will be subject to RMDs. The government ensures that taxes will be paid on these pretax funds by requiring distributions once the required beginning date (RBD) is reached.
RMDs often result in a concentrated future tax liability, informally referred to as a “tax bomb” in retirement. Even if the funds are not needed, distributions must take place or the individual is subject to considerable penalties. Additionally, if the goal is to leave a legacy, passing pre-tax money to an heir requires the heir to pay taxes upon withdrawal, whereas a legacy of Roth funds can be withdrawn tax-free. The most effective action to avoid RMDs and meet the goal of leaving a legacy is to conduct Roth conversions in small increments over time when in a lower, same, or similar tax bracket. Once the RBD for RMDs has been reached, this action is still available but mostly ineffective.
One last issue to address in this article is how one prioritizes Roth contributions versus Roth conversions, that is, where the next dollar goes. Since the criteria for both are essentially the same, consider the following for simplicity:
Assume an individual faces a constant effective tax rate of 30⅓% both before and after retirement. The individual holds $100,000 in a pre-tax account and $100,000 in a Roth account.
When withdrawn, the pre-tax account is worth $70,000 after tax, while the Roth account is worth the full $100,000, because Roth withdrawals are tax-free.
Now consider the same individual prior to retirement, deciding how to deploy the next dollar. The choice is between contributing that dollar directly to a Roth account or using it to pay the tax on a Roth conversion.
At a 30⅓% tax rate, $1 paid in tax allows the individual to convert $3 of pre-tax funds into a Roth account, because $3 × 30⅓% ≈ $1.
A Roth conversion does not create new wealth; it reclassifies existing dollars. The $3 converted from pre-tax to Roth would have been worth only $2.10 after tax in retirement, but once converted, the full $3 is withdrawn tax-free. This creates a multiplier effect; one dollar paid in tax shifts three dollars into tax-free growth, whereas a Roth contribution shelters only the single dollar contributed.
Accordingly, financial planners generally favor Roth conversions up to, but not beyond, the top of the current federal tax bracket, since exceeding that bracket violates the assumption of equal tax rates and increases the tax cost. In addition, RMDs apply to all pre-tax accounts, creating a finite window to reduce future taxable balances. For that reason, when conversion opportunities are favorable, Roth conversions typically take priority over Roth contributions. Once the optimal conversion amount is reached, any remaining dollars are best directed to Roth contributions.
Roth conversions, and Roth contributions, for that matter, must always be analyzed based on individual circumstances and articulated goals. This article highlighted the most important circumstances where an in-plan TSP Roth conversion will be advantageous for individual TSP owners. The analysis included defining a golden rule and identifying the typical service members and federal workers who are in an advantageous financial position to conduct Roth conversions or contributions. Although the article describes this in general terms, a final word of caution, Roth conversions will result in extra taxes and will increase the complexity of filing taxes properly. I must recommend that any individual considering an in-plan Roth conversion consult with a fee-only, pure fiduciary financial advisor and seek a tax professional for the proper way to file taxes.
Did you know Sierra Hotel Financial offers to build complimentary financial plans for all active-duty military and military veterans? We have also expanded this value for all Federal employees. Contact us. https://sierrahotelfinancial.com/contact/