A 403(b) plan, also known as a tax-sheltered annuity (TSA) is a retirement savings account available to employees of public educational institutions and non-profit organizations. It’s the non-profit equivalent of 401(k) plans offered by companies. Like 401(k)s, a 403(b) enables employees to contribute to their account from their salaries and the funds grow tax-deferred until distributed. Contributions to 403(b)s are tax-deductible. There are also Roth 403(b)s. Contributions to Roth 403(b)s are not deductible, but distributions are tax-free.
Organizations whose employees are eligible for 403(b)s include public schools, colleges and universities, churches, hospital service organizations, IRS-recognized charities, and tax-exempt organizations. There is a “universal availability rule” which states if an organization allows one employee to contribute to a 403(b), it must allow all eligible employees to contribute as well. Employees are not eligible if they will contribute $200 or less annually, if they already participate in a 401(k), work less than 20 hours per week, or are nonresident aliens. Unlike 401(k)s, many 403(b)s vest immediately or over much shorter periods of time than 401(k)s.
Like 401(k)s, 403(b)s may offer a variety of investment options, depending on the plan and the employer offering it. These may include both conservative and aggressive investments, and you as the account holder will have to decide which types of investments are most suitable for your situation. 403(b)s may charge high fees, operating expenses, and surrender charges. The state of California’s 403bCompare tool enables visitors from any state to look up fees and withdrawal charges for various 403(b) products.
There are annual limits to contributions an employee can make to a 403(b). The limit on the amount an employee can contribute in one year from salary is $18,000 in 2015. Employees who are age 50 or over can contribute an additional $6,000. The total contributions to each 403(b), including salary deductions, employer matches, and additional contributions cannot exceed the lesser of the employee’s total salary or $53,000 in 2015. Employees who have at least 15 years of service with the organization can contribute an additional $3,000 from salary.
Distributions from 403(b)s are taxable as income. If made before the account owner reaches age 59½, they are also subject to a 10% penalty, unless the owner has died or become disabled, or the distributions are used for unreimbursed medical expenses. You must begin to take withdrawals from your 403(b) by April 1 of the year after the year you turn age 70½. But if you’re still working, you can postpone withdrawals until April 1 after the year in which you retire.
You can also borrow from your 403(b) at an amount equal to the lesser of $50,000 or half of the account value without penalty. In order to avoid having the loan taxed as an early distribution, there are stringent rules that must be adhered to. The term of the loan may not exceed five years, unless the money is used for the purchase of a primary residence, and the loan must have a reasonable rate of interest.
Hardship distributions are also allowed from 403(b)s without penalty in the case of severe financial distress. The account holder must demonstrate financial distress, and the money can be used for medical expenses, college expenses, or to avoid eviction or foreclosure on a primary residence.
Additionally, the “age 55 rule” applies to 403(b)s. If you participate in your employer’s 403(b) plan and you leave the organization at age 55 or over, you can take a distribution from the account without penalty even if you are not yet age 59 1/2. The distribution is taxable, but not subject to the 10% penalty.
For more information
For more detailed information about 403(b) plans, visit 403(b)wise
For an overview of 403(b) plans and tax implications, visit the IRS 403(b) page
To compare 403(b) plans fees and withdrawal charges, visit 403bCompare