I was requesting an inter-fund transfer to re-balance my tsp allocations when I came across this:
When you borrow from your TSP account, loan
payments (including interest) are deducted from
your pay and deposited to your TSP account. Although
you are restoring funds to your TSP account
during the life of the loan, those funds and
their earnings may not equal what you would
have had if you had not borrowed from your account.
Borrowing from your TSP account will
affect the final account balance available for your
retirement. The following examples illustrate the
effects of borrowing.
The Cost of Residential TSP Loans. Let’s assumePersonal Loans
that you need to borrow $10,000 to purchase a
home, and that a mortgage loan is available from
your bank at 7% for 15 years. The monthly loan
payments (principal and interest) would be approximately
$90, and, over the life of the loan, you
would pay about $6,200 in total interest. But mortgage
interest is a tax-deductible expense on your
Federal income tax return, and so, if you are in
the 28% Federal tax bracket, the effective interest
cost of your loan would be reduced to about $4,500.
The $10,000 that remains in your TSP account —
because you borrowed from the bank —would
continue earning for the next 15 years. Let’s assume
that $6,000 of your account is invested in the
G Fund and $4,000 in the C Fund. Using hypothetical
compound annual rates of return of 8%
and 15% for the G Fund and C Fund,* respectively,
your TSP account would earn approximately
$41,600 over 15 years. Therefore, your “net earnings”
at the end of 15 years would be $37,100
($41,600 – $4,500) if you borrow from the bank.
Now, let’s suppose you borrow the $10,000 from
your TSP account instead of the bank. If you do,
you will not have to pay the $90 per month to the
bank, but you will also lose much of the $41,600
in earnings you otherwise would have received on
your TSP account. Also, the “interest” you pay
yourself for a TSP loan is not tax deductible.
To illustrate: If the TSP loan rate is 6%, you will
have to repay approximately $84 per month to
your account for 15 years. (As in the above example,
assume that your contribution allocation is
60% to the G Fund and 40% to the C Fund over
the 15-year repayment period, so that your repayments
go into the two funds in those proportions.)
At the end of 15 years, you will have restored your
TSP account balance to $10,000, but — using the
same G and C Fund annual rates of return as above
— you will have earnings of only about $27,500.
To offset the diminished TSP earnings somewhat,
the $6 savings between the monthly bank loan
payment and the monthly TSP payment ($90 – $84),
if invested at, say, 5% over 15 years, would be worth
approximately $1,500 to you — about $1,100 in
savings and about $400 in interest (after Federal
taxes of 28%). Therefore, your “net earnings” at
the end of 15 years would be $29,000 ($27,500 +
$1,500) if you borrow from your TSP account.
The difference between your earnings when you
borrow from the bank and your earnings when
you borrow from your TSP account is $8,100
($37,100 – $29,000), which is the cost of borrowing
from your TSP account.
The Cost of Other TSP Loans. If you need to
borrow money for some other purpose, it may be
less expensive to borrow from your TSP account
than to borrow from commercial sources.
For example, assume your best alternative to borrowing
from your TSP account is a 4-year personal
bank loan of $10,000 with a 15% interest rate,
which would require monthly payments of approximately
$278. You would pay approximately
$3,300 in interest over 4 years on this loan, which
is not tax deductible. Your TSP earnings on the
$10,000 that remain in your account ($6,000 invested
in the G Fund and $4,000 in the C Fund
over the term of the loan at the hypothetical compound
annual returns of 8% and 15%, respectively)
would be about $5,200 over the 4 years, for
“net earnings” of $1,900 ($5,200 – $3,300).
However, if you borrow $10,000 at 6% from your
TSP account to be paid back over 4 years, your
monthly payments will be about $235. In 4 years,
your account will be restored to $10,000, and you
will have earnings of approximately $3,900.
In addition, if you invest the $43 difference between
the monthly bank loan payment and the
monthly TSP payment ($278 – $235) at 5% over
4 years, you would have approximately $2,200 in
savings and interest (after Federal tax of 28%).
Your “net earnings” after 4 years would therefore
be about $6,100 ($3,900 + $2,200).
The difference between your earnings when you
borrow from your TSP account and your earnings
when you borrow from a bank is $4,200 ($6,100 –
$1,900). Thus, upon the assumptions given, it
would be less expensive to borrow from your TSP
account than from the bank.
Summary. Although the principal and interest you
pay back to your TSP account during the life of
your loan will restore funds to your TSP account,
there are costs of borrowing from yourself as illustrated
above. Be sure you understand the financial
effects of borrowing before proceeding with your
Cliff Notes: They actually say that it may be less expensive to borrow a personal loan from your TSP than a bank. Granted when the numbers are changed this assumption can change, but I'm a little surprised they would even bring this up. Obviously I'm concerned with the personal loan vs the residential loan (I don't know if I pointed this out before, but I did take out a $6k residential loan to cover closing costs on my first house which was paid off like 6 years ago).
My current 12 month TSP performance is 3.56% I can take out up to and including $40k for 1.875% (I would only be interested in about $30k, as I think I stated above). The current APR on the ~$30k in debt is 7.476% (56.9% of debt at 8.99% + 43.1% of debt at 5.49%). So I'd be paying the bank for a total of $5,939 in interest (min payment of $600 for 54 months) vs $1,416 (min payment of $525 for 60 months). Oh, and the $1,416 in interest for my tsp loan gets put back in my tsp, not the bank's pocket.
What do I lose? Well we can't really tell the future so lets use my 12 month performance of 3.56%. Using a CD calculator for 60 months compounding monthly I would make $6,039. A difference of $100 (with a fairly large and probably incorrect assumption of a constant 3.56% compounding monthly. Also not counting the compounding of the slowly increasing repayment of approximately $1100/month back to the TSP via the loan, so in reality, this could be a net gain assuming the 3.56%).
This is dragging on, I've been typing/thinking about this for 30+ minutes and I don't even know if my math is correct. I'm not trying to justify anything here, I just wanted to play with the numbers. I still don't think the loan is the best option, but it does seem to have have a few benefits. 1 - not paying interest to banks, 2 - defined loan term, can't go beyond 60 months, can't not pay it, 3 - Initial monthly payments will be less until the cc min payments start to come down, 4 - a little peace of mind.
edit: The more I think about it the CD calculator with monthly compounding isn't really the right thing to use for stocks, but I'm not sure what else to do. At the same time I figured out an analogy. Taking out the loan would be the same as if I moved $30k to the G fund for the next 5 years. Only I'd avoid having to pay nearly $6k in interest on credit card debt. That's it. Moving money from stocks to bonds would carry the same risk of losing potential earnings from stocks, so if you take that out of the equation the only difference is that I don't pay that interest to the bank. Right?