If a TSP loan isn't paid off before separating from federal service, there's a 90-day window to set up a new repayment method through another account. If nothing is set up in that time, the remaining balance is treated as a taxable distribution and added to that year's taxable income. A 10% early withdrawal penalty may also apply if the borrower is under 59½.
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TSP loans are common during a federal career, but their tax implications at separation are something a lot of people don't think through until it's already happened. By then, the options are pretty limited.
If your TSP loan wasn't paid off before you separated, you have 90 days after separation to set up a new way to pay. If you don't, the remaining balance is treated as a distribution and gets added to your taxable income for that year. Depending on the size of the loan, it can meaningfully change what you owe. And if you're under 59 and a half when that happens, the 10% early withdrawal penalty may apply on top of that.
It's one of the less obvious tax situations that comes up during the federal retirement transition. Knowing where you stand on any outstanding loan balance before you separate gives you time to plan for it or pay it off. Talking to an advisor about planning and timing can help you avoid simple mistakes along the way.
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