I have mixed feelings about TSP loans.

For some, they can be a dead end savings grace, but they are often misused.

We all know unexpected things happen in life, and ideally none of us would have to touch our retirement savings to cover these emergencies.

But since life is often not ideal, there are times when a TSP loan is the best option, even with the negative consequences.

One last check

Before you really consider a TSP loan, be sure to check one last time that you don’t have any other funds that you can use.

The TSP should be one of the last places to go for real money.

When money is withdrawn from the TSP, it can no longer grow and accumulate over time, which can significantly reduce your TSP balance in retirement. In addition, if a TSP loan is not fully repaid by the time you leave public service, it will count as a taxable distribution.

So you may not want to take out a TSP loan if you leave public service in the near future.

Take out money

There are 2 main ways to withdraw money from your TSP while you are still working: a loan or an in-service withdrawal.

The downside to an in-service withdrawal is that it may be subject to taxes as well as a 10% penalty if you are under 59 and ½ years old. But of course, you won’t need to refund the withdrawal.

A TSP loan is often the best option because you won’t owe taxes or penalties, and you will get the money back in your account after you pay it off.

This graph shows a comparison between an in-service withdrawal and a TSP loan

	Withdrawal in service	TSP loan
Cost	$ 50 loan fee	Your retirement savings will be permanently lower due to this withdrawal
Effect on taxes	None (unless you leave the service before it is refunded)	May be subject to taxes and an early withdrawal penalty of 10% if under 59 and 1/2

The real cost of a TSP loan

But remember that the real cost of a TSP loan is not the $ 50 loan fee. It is the fact that the money you withdraw from your TSP is not invested and cannot grow during this time.

It can make a significant difference over time.

Pay off high interest debt

The first situation in which it may make sense to use a TSP loan is to pay off high interest loans such as credit cards.

In many cases, interest on credit cards can be 15-20%, while the current interest rate on a TSP loan is 1.375% (as of 3/30/21). Not to mention, any interest you pay on a TSP loan simply goes back to your account.

But as always, we’ll want to make sure we’re fixing the underlying problem, not just fighting the symptoms. If our spending habits continue to get us into credit card debt, then withdrawing from your TSP will only be a short-term solution.

I would only consider using the TSP for debt when you are fully committed to not accumulating more credit card debt.

Medical emergency with HDHP

A high deductible health care plan or HDHP can be a great way to save money on premiums, but as the name suggests, deductibles are high.

This means that some people can be taken without the savings to cover the deductible when a medical event occurs in their family.

The best way to pay the deductible in a high deductible plan is to use an HSA or health savings account because of its great tax advantages. But for those who don’t have an HSA and don’t have the savings, a TSP loan may be the second best option so that they can preserve their credit.

Bad credit

Emergencies often happen when we least expect them and some people can be caught off guard financially. It can be even more stressful if bad credit is preventing you from getting a loan at a reasonable rate.

In these situations, it can sometimes be a good idea to access the TSP to avoid higher interest rate debt.

But as always, we should always do everything possible not to put ourselves in this position in the first place.

For those with good credit, a HELOC (Home Equity Line of Credit) may be a better alternative to a TSP loan.

Another reminder

Generally, I don’t recommend a TSP loan unless it is really needed, but under certain circumstances it can be a great tool to provide flexibility in difficult times.