Retired Military Finances 201: Don't Leave Money on the Table (and Don't Get Double Taxed Either)Retirement Funding
You've decided to "Hang-up" your G-Suit or ABUs or whatever uniform you wear to work each day. You're pretty confident you'll roll into the new job you've been looking forward to and it won't take too much time. If your new job offers a 401(k) (or 403(b) or TSP) there are some things you need to think about AND you need to make sure you don't screw up some other things. By the way, these concepts also apply if you change civilian jobs during the same year.
First of all, we'll start with some basics. As of this writing (2022) the maximum amount of salary you can defer via a 401(k) or similar account is $20,500 ($27,000 if you are age 50 or older) per year. For those of you who will be self-employed the deferral amount is the same, but you may be able to also shelter more income through a profit-sharing plan implemented through your 401(k) (but thats for another article). Regardless of how many employers you have and how many plans you had access to, the maximum contribution for the year is either $20,500 or $27,000.
Could Contributing to TSP Limit Your Ability to Contribute to a 401(k)?
As you know, you can contribute to TSP while on Active Duty. But should you in the year of your retirement? If your potential new employer offers a 401(k) with matching funds you may want to re-think contributing to TSP.
Here is an example. Suppose your employer matches 100% of your first 5% of salary contributed to your 401(k). You need to take a look at your gross salary for the portion of the year that you will be working in your new job. Take that amount and multiply it by 5%. Whatever the answer is to that question, you'll want to make sure you have that much remaining "deferral space" when you retire. In other words, if your civilian salary for your transition year is $150,000 make sure you don't contribute/defer more than $13,000 to TSP while you're on active duty ($20,500 - ($150,000 x 5%)). If you do contribute more than $13,000, you'll miss out on matching funds and you'll leave money on the table.
Could You Get Double Taxed if You Contribute to TSP in the Year You Retire?
While making sure you don't leave money on the table is important, not getting double taxed is critical. When you work for one company during a year, the company protects you from yourself. Even if you put down a 100% deferral rate, your employer will stop deferring your income when you reach your annual limit of $20,500 or $27,000 (or at least he or she should). This isn't the case when you work for two employers during the same year. Your new employer won't know how much you contributed to your old employer's plan and won't stop your contributions. You could theoretically defer $41,000 or $54,000 (assuming two employers). This is bad. Real bad.
If you contribute too much you really need to get the money out before you file your taxes (and get an updated W-2). Otherwise, you'll need to declare the excess deferral as income and pay taxes on it. But here's the kicker...even if you declared the income and paid taxes on it when you over-contributed if you leave the money in your 401(k) when you take the money out of your 401(k) you'll pay taxes on it again. It gets better though. Your employer doesn't have to let you take out the money. If the Summary Plan Document doesn't allow withdrawals for excess contributions, you're out of luck. Basically your employer is saying, "We're not going to fix your screw-ups". Whether you can reverse the contributions or not varies from employer to employer.
It is worth it to keep your eye on these issues.
Retired Military Finances are Different
There aren't that many Americans out there that start a second career while receiving a pension. That's a pretty unique scenario. There are a lot of things unique to the finances and taxes of a retired Senior Military Officer or NCO. That's why we think you should work with a financial planner or advisor that deals with military and veteran issues each and every day. If you'd like to find out how we help people in your shoes, use the button below to schedule a free, no-obligation initial consultation.
If you found this article useful, you might like the following blog posts:
Retired Military Finances 101: A Guide to 401(k) In-Service Withdrawals for Employees
Retired Military Finances 101: 401(k) plans. A Lot Like TSP, But Not the Same
What to Do With Your Old 401(k) (or TSP) When You Switch Jobs