Here’s a startling fact: the booming stock market of recent years could mean a bigger tax bill for many federal retirees in 2026. But here’s where it gets controversial—while this might sound like bad news, there’s a silver lining that could actually work in your favor. Let’s break it down in a way that’s easy to understand, even if you’re not a tax expert.
For the third consecutive year, the U.S. stock market delivered impressive gains in 2025, mirroring its performance in 2024 and 2023. Specifically, U.S. stocks climbed by 17% in 2025, following a 23% surge in 2024 and a 24% jump in 2023. This remarkable run pushed key indices to record highs: the S&P 500 nearly hit 7,000, and the Dow Jones Industrials surpassed 48,000. While this is great news for Thrift Savings Plan (TSP) participants, it also triggers a critical tax-planning consideration for federal employees and retirees in 2026.
And this is the part most people miss: retirees aged 73 or older who are TSP participants will likely face larger Required Minimum Distributions (RMDs) in 2026, especially if their portfolios are heavily invested in the stock funds (C, S, and I funds). Why? Because 2026 RMDs are calculated based on the account values as of December 31, 2025, which were at record highs. Larger RMDs mean higher federal and state income tax liabilities for traditional TSP participants.
However, there’s a silver lining to this situation, and it comes in two parts. First, the low federal income tax rates introduced by the Tax Cuts and Jobs Act of 2017, which were set to expire at the end of 2025, were extended for at least five more years thanks to the One Big Beautiful Bill Act of 2025 (OBBBA). Second, larger RMDs in 2026 will force participants to withdraw more from their traditional TSP accounts, potentially reducing future balances and, consequently, future RMDs.
But here’s where it gets controversial: while these larger RMDs might seem like a burden, they could actually be an opportunity to optimize your tax strategy. Here are three actions traditional TSP participants should consider to reduce future RMDs and their associated tax liabilities:
Convert Traditional TSP to Roth TSP: Starting January 28, 2026, TSP participants can convert portions of their traditional TSP to a Roth TSP. This reduces the traditional TSP balance, potentially lowering future RMDs. However, this move is fully taxable, so it’s crucial to assess the immediate tax impact. Questions to ask include: How will this affect your taxable income? Will it push you into a higher tax bracket? Do you have enough cash on hand to cover the taxes?
Direct Rollover to a Traditional IRA: Participants aged 55 or older (or 59.5 for those still in service) can roll over portions of their traditional TSP to a traditional IRA. This reduces the TSP balance and may lower future RMDs. From there, you can consider converting the IRA to a Roth IRA, but again, this is a taxable event.
Qualified Charitable Distributions (QCDs): For those charitably inclined, QCDs can be a powerful tool. Traditional IRA owners aged 70.5 or older can make QCDs of up to $111,000 in 2026 directly from their IRA to a qualifying charity. By first rolling over TSP funds to a traditional IRA, participants can use QCDs to reduce their TSP balance in a tax-free manner.
Here’s a thought-provoking question: With the complexity of these strategies, especially the tax implications, is it worth consulting a professional to ensure you’re making the most of these opportunities? And for those who are hesitant about conversions or rollovers, is the potential for lower future RMDs and tax liabilities enough to outweigh the immediate tax costs?
What’s your take? Do you see these larger RMDs as a challenge or an opportunity? Share your thoughts in the comments—let’s spark a discussion!
