Part II Rules for Retirees

This part of the publication is for retirees who retired on nondisability retirement. If you retired on disability, see Part III, Rules for Disability Retirement and Credit for the Elderly or the Disabled, later.

Annuity statement. The statement you received from OPM when your CSRS or FERS annuity was approved shows the commencing date (the annuity starting date), the gross monthly rate of your annuity benefit, and your total contributions to the retirement plan (your cost). You will use this information to figure the tax-free recovery of your cost.

Annuity starting date. If you retire from federal government service on a regular annuity, your annuity starting date is the commencing date on your annuity statement from OPM. If something delays payment of your annuity, such as a late application for retirement, it does not affect the date your annuity begins to accrue or your annuity starting date.

Gross monthly rate. This is the amount you were to get after any adjustment for electing a survivor's annuity or for electing the lump-sum payment under the alternative annuity option (if either applied) but before any deduction for income tax withholding, insurance premiums, etc.

Your cost. Your monthly annuity payment contains an amount on which you have previously paid income tax. This amount represents part of your contributions to the retirement plan. Even though you did not receive the money that was contributed to the plan, it was included in your gross income for federal income tax purposes in the years it was taken out of your pay.

The cost of your annuity is the total of your contributions to the retirement plan, as shown on your annuity statement from OPM. If you elected the alternative annuity option, it includes any deemed deposits and any deemed redeposits that were added to your lump-sum credit. (See Lump-sum credit under Alternative Annuity Option, later.)

If you repaid contributions that you had withdrawn from the retirement plan earlier, or if you paid into the plan to receive full credit for service not subject to retirement deductions, the entire repayment, including any interest, is a part of your cost. You cannot claim an interest deduction for any interest payments. You cannot treat these payments as voluntary contributions; they are considered regular employee contributions.

Recovering your cost tax free. How you figure the tax-free recovery of the cost of your CSRS or FERS annuity depends on your annuity starting date.

• If your annuity starting date is before July 2, 1986, either the Three-Year Rule or the General Rule (both discussed later) applies to your annuity.
• If your annuity starting date is after July 1, 1986, and before November 19, 1996, you could have chosen to use either the General Rule or the Simplified Method.
• If your annuity starting date is after November 18, 1996, you must use the Simplified Method.

Under both the General Rule and the Simplified Method, each of your monthly annuity payments is made up of two parts: the tax-free part that is a return of your cost, and the taxable part that is the amount of each payment that is more than the part that represents your cost. The tax-free part is a fixed dollar amount. It remains the same, even if your annuity is increased. Generally, this rule applies as long as you receive your annuity. However, see Exclusion limit, later.

Choosing a survivor annuity after retirement. If you retired without a survivor annuity and report your annuity under the Simplified Method, do not change your tax-free monthly amount even if you later choose a survivor annuity.

If you retired without a survivor annuity and report your annuity under the General Rule, you must figure a new exclusion percentage if you later choose a survivor annuity. To figure it, reduce your cost by the amount you previously recovered tax free. Figure the expected return as of the date the reduced annuity begins. For details on the General Rule, see Publication 939.

Canceling a survivor annuity after retirement. If you notify OPM that your marriage has ended, your annuity might be increased to remove the reduction for a survivor benefit. The increased annuity does not change the cost recovery you figured at the annuity starting date. The tax-free part of each annuity payment remains the same.

For more information about choosing or canceling a survivor annuity after retirement, contact OPM's Retirement Information Office at 1-888-767-6738 (customers within the local Washington, D.C. calling area must call 202-606-0500).

Exclusion limit. If your annuity starting date is after 1986, the total amount of annuity income that you (or the survivor annuitant) can exclude over the years as a return of your cost may not exceed your total cost. Annuity payments you or your survivors receive after the total cost in the plan has been recovered are fully taxable.

Example. Your annuity starting date is after 1986 and you exclude $100 a month under the Simplified Method. If your cost is $12,000, the exclusion ends after 10 years (120 months). Thereafter, your entire annuity is taxable.

Annuity starting date before 1987. If your annuity starting date is before 1987, you continue to take your monthly exclusion figured under the General Rule or Simplified Method for as long as you receive your annuity. If you chose a joint and survivor annuity, your survivor continues to take that same exclusion. The total exclusion may be more than your cost.

Deduction of unrecovered cost. If your annuity starting date is after July 1, 1986, and the cost of your annuity has not been fully recovered at your (or the survivor annuitant's) death, a deduction is allowed for the unrecovered cost. The deduction is claimed on your (or your survivor's) final tax return as a miscellaneous itemized deduction (not subject to the 2%-of-adjusted-gross income limit). If your annuity starting date is before July 2, 1986, no tax benefit is allowed for any unrecovered cost at death.

Simplified Method

If your annuity starting date is after November 18, 1996, you must use the Simplified Method to figure the tax-free part of your CSRS or FERS annuity. (OPM has figured the taxable amount of your annuity shown on your Form CSA 1099R using the Simplified Method.) You could have chosen to use either the Simplified Method or the General Rule if your annuity starting date is after July 1, 1986, but before November 19, 1996. The Simplified Method does not apply if your annuity starting date is before July 2, 1986.

Under the Simplified Method, you figure the tax-free part of each full monthly payment by dividing your cost by a number of months based on your age. This number will differ depending on whether your annuity starting date is on or before November 18, 1996, or later. If your annuity starting date is after 1997 and your annuity includes a survivor benefit for your spouse, this number is based on your combined ages.

Table 1. Use Table 1, Simplified Method Worksheet (near the end of this publication), to figure your taxable annuity. Be sure to keep the completed worksheet. It will help you figure your taxable amounts for later years.

Instead of Table 1, you can generally use the Simplified Method Worksheet in the instructions for Form 1040 or Form 1040A to figure your taxable annuity. However, you must use Table 1 and Table 2 in this publication if you chose the alternative annuity option. See Alternative Annuity Option, later.

Line 2. See Your cost, earlier, for an explanation of your cost in the plan. If your annuity starting date is after November 18, 1996, and you chose the alternative annuity option (explained later), you must reduce your cost by the tax-free part of the lump-sum payment you received.

Line 3. Find the appropriate number from one of the tables at the bottom of the worksheet. If your annuity starting date is after 1997, use:

• Table 1 for an annuity without a survivor benefit, or
• Table 2 for an annuity with a survivor benefit.

If your annuity starting date is before 1998, use Table 1.

Line 6. If you retired before 2001, the amount previously recovered tax free that you must enter on line 6 is the total amount from line 10 of last year's worksheet. If your annuity starting date is before November 19, 1996, and you chose the alternative annuity option, it includes the tax-free part of the lump-sum payment you received.

Example. Bill Kirkland retired from the federal government on April 30, 2001, under an annuity that will provide a survivor benefit for his wife, Kathy. His annuity starting date is May 3, 2001. He must use the Simplified Method to figure the tax-free part of his annuity benefits.

Bill's monthly annuity benefit is $1,000. He had contributed $24,700 to his retirement plan and had received no distributions before his annuity starting date. At his annuity starting date, he was 65 and Kathy was 57.

Bill's completed worksheet (Table 1) is shown on the next page. To complete line 3, he used Table 2 at the bottom of the worksheet and found the number in the second column opposite the age range that includes 122 (his and Kathy's combined ages). Bill keeps a copy of the completed worksheet for his records. It will help him (and Kathy, if she survives him) figure the taxable amount of the annuity in later years.

Bill's tax-free monthly amount is $80. (See line 4 of the worksheet.) If he lives to collect more than 310 monthly payments, he will have to include in his gross income the full amount of any annuity payments received after 310 payments have been made.

If Bill does not live to collect 310 monthly payments and his wife begins to receive monthly payments, she will also exclude $80 from each monthly payment until 310 payments (Bill's and hers) have been collected. If she dies before 310 payments have been made, a miscellaneous itemized deduction (not subject to the 2%-of-adjusted-gross-income limit) will be allowed for the unrecovered cost on her final income tax return.

Bill's Simplified Method

General Rule

If your annuity starting date is after November 18, 1996, you cannot use the General Rule to figure the tax-free part of your CSRS or FERS annuity. If your annuity starting date is after July 1, 1986, but before November 19, 1996, you could have chosen to use either the General Rule or the Simplified Method. If your annuity starting date is before July 2, 1986, you could have chosen to use the General Rule only if you could not use the Three-Year Rule.

Under the General Rule, you figure the tax-free part of each full monthly payment by multiplying the initial gross monthly rate of your annuity by an exclusion percentage. Figuring this percentage is complex and requires the use of actuarial tables. For these tables and other information about using the General Rule, see Publication 939.

Three-Year Rule

If your annuity starting date was before July 2, 1986, you probably had to report your annuity using the Three-Year Rule. Under this rule, you excluded all the annuity payments from income until you fully recovered your cost. After your cost was recovered, all payments became fully taxable. You cannot use another rule to again exclude amounts from income.

The Three-Year Rule was repealed for retirees whose annuity starting date is after July 1, 1986.

Alternative Annuity Option

If you are a nondisability retiree under either CSRS or FERS, you may be able to choose the alternative annuity option. This option is generally available only to retirees with certain life-threatening illnesses or other critical medical conditions. If you choose this option, you will receive a lump-sum payment equal to your total regular contributions to the retirement plan plus any interest that applies. Your monthly annuity is then reduced by about 5 to 15 percent to adjust for this payment.

Lump-Sum Payment

The lump-sum payment you receive under the alternative annuity option generally has a tax-free part and a taxable part. The tax-free part represents part of your cost. The taxable part represents part of the earnings on your annuity contract. If your lump-sum credit (discussed later) includes a deemed deposit or redeposit, the taxable amount may be more than the lump-sum payment. You must include the taxable part of the lump-sum payment in your income for the year you receive the payment unless you roll it over into another qualified plan or a traditional IRA. If you do not have OPM transfer the taxable amount to an IRA or other plan in a direct rollover, tax will be withheld at a 20% rate. See Rollover Rules, later, for information on how to make a rollover.

OPM can make a direct rollover only up to the amount of the lump-sum payment. Therefore, to defer tax on the full taxable amount if it is more than the payment, you must roll over the difference using your own funds.

The taxable part of the lump-sum payment does not qualify as a lump-sum distribution eligible for capital gain treatment or the 10-year tax option. It may also be subject to an additional 10% tax on early distributions if you separate from service before the calendar year in which you reach age 55. For more information, see Lump-Sum Distributions and Tax on Early Distributions in Publication 575.

Table 2. Use Table 2, Worksheet for Lump-Sum Payment (near the end of this publication), to figure the taxable part of your lump-sum payment. Be sure to keep the completed worksheet for your records.

To complete the worksheet, you will need to know the amount of your lump-sum credit and the present value of your annuity contract.

Lump-sum credit. Generally, this is the same amount as the lump-sum payment you receive (the total of your contributions to the retirement system and interest on those contributions). However, for purposes of the alternative annuity option, your lump-sum credit may also include deemed deposits and redeposits that OPM advanced to your retirement account so that you are given credit for the service they represent. Deemed deposits (including interest) are for federal employment during which no retirement contributions were taken out of your pay. Deemed redeposits (including interest) are for any refunds of retirement contributions that you received and did not repay. You are treated as if you had received a lump-sum payment equal to the amount of your lump-sum credit and then had made a repayment to OPM of the advanced amounts.

Present value of your annuity contract. The present value of your annuity contract is figured using actuarial tables provided by the IRS.

To find out the present value of your annuity contract, call the IRS Actuarial Branch 1 at 202-283-9717 (not a toll-free call).

Example. David Brown retired from the federal government in 2001, one month after his 55th birthday. He had contributed $31,000 to his retirement plan and chose to receive a lump-sum payment of that amount under the alternative annuity option. The present value of his annuity contract was $155,000. Using the Table 2 worksheet, he figures the taxable part of the lump-sum payment and his net cost in the plan. That worksheet is shown above.

David Brown Worksheet for Lump-sum Payment

Lump-sum payment in installments. If you choose the alternative annuity option, you usually will receive the lump-sum payment in two equal installments. You will receive the first installment after you make the choice upon retirement. The second installment will be paid to you, with interest, in the next calendar year. (Exceptions to the installment rule are provided for cases of critical medical need.)

Even though the lump-sum payment is made in installments, the overall tax treatment (explained at the beginning of this discussion) is the same as if the whole payment were paid at once. If the payment has a tax-free part, you must treat the taxable part as received first.

How to report. Add any actual or deemed payment of your lump-sum credit (defined earlier) to the total for line 16a, Form 1040, or line 12a, Form 1040A. Add the taxable part to the total for line 16b, Form 1040, or line 12b, Form 1040A, unless you roll over the taxable part to a traditional IRA or a qualified retirement plan.

If you receive the lump-sum payment in two installments, include any interest paid with the second installment on line 8a of either Form 1040 or Form 1040A.

Reduced Annuity

If you have chosen to receive a lump-sum payment under the alternative annuity option, you will also receive reduced monthly annuity payments. These annuity payments will each have a tax-free and a taxable part. To figure the tax-free part of each annuity payment, you must use the Simplified Method Worksheet (Table 1). For instructions on how to complete the worksheet, see Table 1 under Simplified Method, earlier.

To complete line 2 of Table 1, you must reduce your cost in the plan by the tax-free part of the lump-sum payment you received. Enter as your net cost on line 2 the amount from line 5 of Table 2. Do not include the tax-free part of the lump-sum payment with other amounts recovered tax free ( line 6 of Table 1) when limiting your total exclusion to your total cost.

Example. The facts are the same as in the example for David Brown in the preceding discussion. In addition, David received 10 annuity payments in 2001 of $1,200 each. Using the Table 1 worksheet, he figures the taxable part of his annuity payments. He completes line 2 by reducing his $31,000 cost by the $6,200 tax-free part of his lump-sum payment. His entry on line 2 is his $24,800 net cost in the plan (the amount from line 5 of Table 2). He does not include the tax-free part of his lump-sum payment on line 6 of Table 1. David's filled-in Table 1 worksheet is shown on the next page.

David's simplified method after receiving a lump-sum payment

Reemployment after choosing the alternative annuity option. If you chose this option when you retired and then you were reemployed by the federal government before retiring again, your Form CSA 1099R may show only the amount of your contributions to your retirement plan during your reemployment. If the amount on the form does not include all your contributions, disregard it and use your total contributions to figure the taxable part of your annuity payments.

Annuity starting date before November 19, 1996. If your annuity starting date is before November 19, 1996, and you chose the alternative annuity option, the taxable and tax-free parts of your lump-sum payment and your annuity payments are figured using different rules. Under those rules, you do not reduce your cost in the plan (line 2 of Table 1) by the tax-free part of the lump-sum payment. However, you must include that tax-free amount with other amounts previously recovered tax free (line 6 of Table 1) when limiting your total exclusion to your total cost.

Federal Gift Tax

If, through the exercise or nonexercise of an election or option, you provide an annuity for your beneficiary at or after your death, you have made a gift. The gift may be taxable for gift tax purposes. The value of the gift is equal to the value of the annuity.

Joint and survivor annuity. If the gift is an interest in a joint and survivor annuity where only you and your spouse can receive payments before the death of the last spouse to die, the gift will generally qualify for the unlimited marital deduction. This will eliminate any gift tax liability with regard to that gift.

If you provide survivor annuity benefits for someone other than your current spouse, such as your former spouse, the unlimited marital deduction will not apply. This may result in a taxable gift.

More information. For information about the gift tax, see Publication 950, Introduction to Estate and Gift Taxes.

Retirement During the Past Year

If you have recently retired, the following discussions covering annual leave, voluntary contributions, and community property may apply to you.

Annual leave. Treat a payment for accrued annual leave received on retirement as a salary payment. It is taxable as wages in the tax year you receive it.

Voluntary contributions. Voluntary contributions to the retirement fund are those made in addition to the regular contributions that were deducted from your salary. They also include the regular contributions withheld from your salary after you have the years of service necessary for the maximum annuity allowed by law. Voluntary contributions are not the same as employee contributions to the Thrift Savings Plan. See Thrift Savings Plan, later.

Additional annuity benefit. If you choose an additional annuity benefit from your voluntary contributions, it is treated separately from the annuity benefit that comes from the regular contributions deducted from your salary. This separate treatment applies for figuring the amounts to be excluded from, and included in, gross income. It does not matter that you receive only one monthly check covering both benefits. Each year you will receive a Form CSA 1099R that will show how much of your total annuity received in the past year was from each type of benefit.

Figure the taxable and tax-free parts of your additional monthly benefits from voluntary contributions using the rules that apply to regular CSRS and FERS annuities, as explained earlier in Part II.

Refund of voluntary contributions. If you choose a refund of your voluntary contributions plus accrued interest, the interest is taxable to you in the tax year it is distributed unless you roll it over to a traditional IRA or another qualified retirement plan. If you do not have OPM transfer the interest to a traditional IRA or other qualified retirement plan in a direct rollover, tax will be withheld at a 20% rate. See Rollover Rules, later. The interest does not qualify as a lump-sum distribution eligible for capital gain treatment or the 10-year tax option. It may also be subject to an additional 10% tax on early distributions if you separate from service before the calendar year in which you reach age 55. For more information, see Lump-Sum Distributions and Tax on Early Distributions in Publication 575.

Community property laws. State community property laws apply to your annuity. These laws will affect your income tax only if you file a return separately from your spouse.

Generally, the determination of whether your annuity is separate income (taxable to you) or community income (taxable to both you and your spouse) is based on your marital status and domicile when you were working. Regardless of whether you are now living in a community property state or a noncommunity property state, your current annuity may be community income if it is based on services you performed while married and domiciled in a community property state.

At any time, you have only one domicile even though you may have more than one home. Your domicile is your fixed and permanent legal home to which, when absent, you intend to return. The question of your domicile is mainly a matter of your intentions as indicated by your actions.

If your annuity is a mixture of community income and separate income, you must divide it between the two kinds of income. The division is based on your periods of service and domicile in community and noncommunity property states while you were married.

For more information, see Publication 555, Community Property.

Reemployment After Retirement

If you retired from federal service and are later reemployed by the federal government, you can continue to receive your annuity during reemployment. The employing agency will usually pay you the difference between your salary for your period of reemployment and your annuity. This amount is taxable as wages. Your annuity will continue to be taxed just as it was before. If you are still recovering your cost, you continue to do so. If you have recovered your cost, the annuity you receive while you are reemployed is generally fully taxable.

Nonresident Aliens

The following special rules apply to nonresident alien federal employees performing services outside the United States and to nonresident alien retirees and beneficiaries.

Special rule for figuring your total contributions. Your contributions to the retirement plan (your cost) also include the government's contributions to the plan to a certain extent. You include government contributions that would not have been taxable to you at the time they were contributed if they had been paid directly to you. For example, government contributions would not have been taxable to you if, at the time made, your services were performed outside the United States. Thus, your cost is increased by government contributions that you would have excluded as income from foreign services if you had received them directly as wages. This reduces the benefits that you, or your beneficiary, must include in income.

This method of figuring your total contributions does not apply to any contributions the government made on your behalf after you became a citizen or resident of the United States.

Limit on taxable amount. There is a limit on the taxable amount of payments received from the CSRS, the FERS, or the TSP by a nonresident alien retiree or nonresident alien beneficiary. This limited taxable amount is in the same proportion to the otherwise taxable amount that the retiree's total U.S. Government basic pay, other than tax-exempt pay for services performed outside the United States, is to the retiree's total U.S. Government basic pay for all services.

Basic pay includes regular pay plus any standby differential. It does not include bonuses, overtime pay, certain retroactive pay, uniform or other allowances, or lump-sum leave payments.

To figure the limited taxable amount of your CSRS or FERS annuity or your TSP distributions, use the following worksheet. (For an annuity, first complete Table 1 in this publication.)

Example 1. You are a nonresident alien who performed all services for the U.S. Government abroad as a nonresident alien. You retired and began to receive a monthly annuity of $200. Your total basic pay for all services for the U.S. Government was $100,000.

The taxable amount of your annuity using Table 1 in this publication is $720. Because you are a nonresident alien, you figure the limited taxable amount of your annuity as follows.

Example 2. You are a nonresident alien who performed services for the U.S. Government as a nonresident alien both within the United States and abroad. You retired and began to receive a monthly annuity of $240.

Your total basic pay for your services for the U.S. Government was $120,000--$40,000 was for work done in the United States and $80,000 was for your work done in a foreign country.

The taxable amount of your annuity figured using Table 1 in this publication is $1,980. Because you are a nonresident alien, you figure the limited taxable amount of your annuity as follows.

Thrift Savings Plan

All of the money in your Thrift Savings Plan (TSP) account is taxed as ordinary income when you receive it. This is because neither the contributions to your TSP account nor its earnings have been previously included in your taxable income. The way that you withdraw your account balance determines when you must pay the tax.

Direct rollover by the TSP. If you ask the TSP to transfer any part of the money in your account to a traditional IRA or other qualified retirement plan, the tax on that part is deferred until you receive payments from the traditional IRA or other plan. See Rollover Rules, later.

TSP annuity. If you ask the TSP to buy an annuity with the money in your account, the annuity payments are taxed when you receive them. The payments are not subject to the additional 10% tax on early distributions, even if you are under age 55 when they begin.

Cash withdrawals. If you withdraw any of the money in your TSP account, it is taxed as ordinary income when you receive it unless you roll it over into a traditional IRA or other qualified plan. (See Rollover Rules, later.) If you receive your entire TSP account balance in a single tax year, you may be able to use the 10-year tax option to figure your tax. See Lump-Sum Distributions in Publication 575 for details.

If you receive a single payment or you choose to receive your account balance in monthly payments over a period of less than 10 years, the TSP generally must withhold 20% for federal income tax. If you choose to receive your account balance in monthly payments over a period of 10 or more years or a period based on your life expectancy, the payments are subject to withholding under the same rules as your CSRS or FERS annuity. See Tax Withholding and Estimated Tax in Part I.

Tax on early distributions. Any money paid to you from your TSP account before you reach age 59 1/2 may be subject to an additional 10% tax on early distributions. However, this additional tax does not apply in any of the following situations.

1. You separate from government service during or after the calendar year in which you reach age 55.
2. You choose to receive your account balance in monthly payments based on your life expectancy.
3. You retire on disability.

For more information, see Tax on Early Distributions in Publication 575.

Outstanding loan. If the TSP declares a distribution from your account because money you borrowed has not been repaid when you separate from government service, your account is reduced and the amount of the distribution (your unpaid loan balance and any unpaid interest) is taxed in the year declared. The distribution also may be subject to the additional 10% tax on early distributions. However, the tax will be deferred if you make a rollover contribution to a traditional IRA or other qualified plan equal to the declared distribution amount. See Rollover Rules, next. If you withdraw any money from your TSP account the same year, the TSP must withhold income tax of 20% of the total of the declared distribution and the amount withdrawn.

More information. For more information about the TSP, see Summary of the Thrift Savings Plan for Federal Employees, distributed to all federal employees. Also see Important Tax Information About Payments From Your TSP Account and Tax Treatment of Thrift Savings Plan Payments to Nonresident Aliens and Their Beneficiaries, which are available from your agency personnel office or from the TSP.

The above documents are also available on the Internet at www.tsp.gov. Select "Forms & Publications."

Rollover Rules

A rollover is a tax-free withdrawal of cash or other assets from one qualified retirement plan or traditional IRA and its reinvestment in another qualified retirement plan or traditional IRA. Do not include the amount rolled over in your income, and you cannot take a deduction for it. The amount rolled over is taxed later as the new program pays that amount to you. If you roll over amounts into a traditional IRA, later distributions of these amounts from the traditional IRA do not qualify for the capital gain or the 10-year tax option. However, capital gain treatment or the 10-year tax option will be restored if the traditional IRA contains only amounts rolled over from a qualified plan and these amounts are rolled over from the traditional IRA into a qualified retirement plan.

Qualified retirement plan. For this purpose, a qualified retirement plan generally is:

• A qualified employee plan, or
• A qualified employee annuity.

The CSRS, FERS, and TSP are considered qualified retirement plans.

For distributions made after 2001, the following plans will also be qualified retirement plans.

• A tax-sheltered annuity plan (403(b) plan).
• An eligible state or local government section 457 deferred compensation plan.

Distributions eligible for rollover treatment. If you receive a refund of your CSRS or FERS contributions when you leave government service, you can roll over any interest you receive on the contributions. You cannot roll over any part of your CSRS or FERS annuity payments.

You can roll over a distribution of any part of your TSP account balance except:

1. A distribution of your account balance that you choose to receive in monthly payments over:
1. Your life expectancy, or
2. A period of 10 years or more,
2. A required minimum distribution generally beginning at age 70 1/2,
3. A declared distribution because of an unrepaid loan, if you have not separated from government service (see Outstanding loan under Thrift Savings Plan, earlier), or
4. A hardship distribution.

In addition, a distribution to your beneficiary generally is not treated as an eligible rollover distribution. However, see Qualified domestic relations order and Rollover by surviving spouse, later.

Direct rollover option. You can choose to have the OPM or TSP transfer any part of an eligible rollover distribution directly to another qualified retirement plan that accepts rollover distributions or to a traditional IRA. The distribution cannot be rolled over into a Roth IRA.

No tax withheld. If you choose the direct rollover option, no tax will be withheld from any part of the distribution that is directly paid to the trustee of the other plan.

Payment to you option. If an eligible rollover distribution is paid to you, the OPM or TSP must withhold 20% for income tax even if you plan to roll over the distribution to another qualified retirement plan or traditional IRA. However, the full amount is treated as distributed to you even though you actually receive only 80%. You generally must include in income any part (including the part withheld) that you do not roll over within 60 days to another qualified retirement plan or to a traditional IRA.

If you leave government service before the calendar year in which you reach age 55 and are under age 59 1/2 when a distribution is paid to you, you may have to pay an additional 10% tax on any part, including any tax withheld, that you do not roll over. See Tax on Early Distributions in Publication 575.

Exception to withholding. Withholding from an eligible rollover distribution paid to you is not required if the distributions for your tax year total less than $200.

Partial rollovers. If you receive a lump-sum distribution, it may qualify for capital gain treatment or the 10-year tax option. See Lump-Sum Distributions in Publication 575. However, if you roll over any part of the distribution, the part you keep does not qualify for this special tax treatment.

Rolling over more than amount received. If you want to roll over more of an eligible rollover distribution than the amount you received after income tax was withheld, you will have to add funds from some other source (such as your savings or borrowed amounts).

Example. You left government service at age 53. On February 1, 2002, you receive an eligible rollover distribution of $10,000 from your TSP account. The TSP withholds $2,000, so you actually receive $8,000. If you want to roll over the entire $10,000 to postpone including that amount in your income, you will have to get $2,000 from some other source and add it to the $8,000 you actually received.

If you roll over only $8,000, you must include in your income the $2,000 not rolled over. Also, you may be subject to the 10% additional tax on the $2,000.

Time for making rollover. You generally must complete the rollover of an eligible rollover distribution by the 60th day following the day on which you receive the distribution.

The 60-day period may be extended for distributions made after 2001 in certain cases of casualty, disaster, or other events beyond your reasonable control.

Frozen deposits. If an amount distributed to you becomes a frozen deposit in a financial institution during the 60-day period after you receive it, the rollover period is extended. An amount is a frozen deposit if you cannot withdraw it because of either:

• The bankruptcy or insolvency of the financial institution, or
• Any requirement imposed by the state in which the institution is located because of the bankruptcy or insolvency (or threat of it) of one or more financial institutions in the state.

The 60-day rollover period is extended by the period for which the amount is a frozen deposit and does not end earlier than 10 days after the amount is no longer a frozen deposit.

Qualified domestic relations order. You may be able to roll over tax free all or part of a distribution you receive from the CSRS, the FERS, or the TSP under a court order in a divorce or similar proceeding. You must receive the distribution as the government employee's spouse or former spouse (not as a nonspousal beneficiary). The rollover rules apply to you as if you were the employee. You can roll over the distribution if it is an eligible rollover distribution (described earlier) and it is made under a qualified domestic relations order (QDRO) or, for the TSP, a qualifying order.

A QDRO is a judgment, decree, or order relating to payment of child support, alimony, or marital property rights. The payments must be made to a spouse, former spouse, child, or other dependent of a participant in the plan. For the TSP, a QDRO can be a qualifying order, but a domestic relations order can be a qualifying order even if it is not a QDRO. For example, a qualifying order can include an order that requires a TSP payment of attorney's fees to the attorney for the spouse, former spouse, or child of the participant.

The order must contain certain information, including the amount or percentage of the participant's benefits to be paid to each payee. It cannot require the plan to pay benefits in a form not offered by the plan, nor can it require the plan to pay increased benefits.

A distribution that is paid to a child, dependent, or, if applicable, an attorney for fees, under a QDRO or a qualifying order is taxed to the plan participant.

Rollover by surviving spouse. You may be able to roll over tax free all or part of the CSRS, FERS, or TSP distribution you receive as the surviving spouse of a deceased employee. The rollover rules apply to you as if you were the employee, except that you generally can roll over the distribution only into a traditional IRA.

You can roll over a distribution made after 2001 into a qualified retirement plan or a traditional IRA.

A distribution paid to a beneficiary other than the employee's surviving spouse is not an eligible rollover distribution.

How to report. On your Form 1040, report the total distributions from the CSRS, FERS, or TSP on line 16a. Report the taxable amount of the distributions minus the amount rolled over, regardless of how the rollover was made, on line 16b. If you file Form 1040A, report the total distributions on line 12a and the taxable amount minus the amount rolled over on line 12b.

Written explanation to recipients. The TSP or OPM must provide a written explanation to you within a reasonable period of time before making an eligible rollover distribution to you. It must tell you about all of the following.

1. Your right to have the distribution paid tax free directly to another qualified retirement plan or to a traditional IRA.
2. The requirement to withhold tax from the distribution if it is not directly rolled over.
3. The nontaxability of any part of the distribution that you roll over within 60 days after you receive the distribution.
4. Other qualified retirement plan rules that apply, including those for lump-sum distributions, alternate payees, and cash or deferred arrangements.

For most distributions made after 2001, the explanation must also tell you how distributions from the plan receiving the rollover may be subject to restrictions and tax consequences that differ from those that apply to distributions from the plan making the rollover.

Reasonable period of time. The TSP or OPM must provide you with a written explanation no earlier than 90 days and no later than 30 days before the distribution is made. However, you can choose to have the TSP or OPM make a distribution less than 30 days after the explanation is provided, as long as the following two requirements are met.

• You must have the opportunity to consider whether or not you want to make a direct rollover for at least 30 days after the explanation is provided.
• The information you receive must clearly state that you have the right to have 30 days to make a decision.

Contact the TSP or OPM if you have any questions about this information.

Choosing the right option. The following comparison chart may help you decide which distribution option to choose. Carefully compare the tax effects of each and choose the option that is best for you.

How To Report Benefits

If you received annuity benefits that are not fully taxable, report the total received for the year on Form 1040, line 16a, or on Form 1040A, line 12a. Also include on that line the total of any other pension plan payments (even if fully taxable, such as those from the TSP) that you received during the year in addition to the annuity. Report the taxable amount of these total benefits on line 16b (Form 1040) or line 12b (Form 1040A). If you use Form 4972, Tax on Lump-Sum Distributions, however, to report the tax on any amount, do not include that amount on lines 16a and 16b or lines 12a and 12b; follow the Form 4972 instructions.

If you received only fully taxable payments from your retirement, the TSP, or other pension plan, report on Form 1040, line 16b, or Form 1040A, line 12b, the total received for the year (except for any amount reported on Form 4972); no entry is required on line 16a (Form 1040) or line 12a (Form 1040A).

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