By Janet Stanton Burt
A 403(b) plan is a tax-advantaged investment account that can help you save money for retirement if you work for a public school, a nonprofit organization like a hospital, or a religious group.
How Does 403(b) Differ from a 401(k)?
Most people know that a 401(k) is a tax-advantaged retirement plan some employers offer to help their workers save for retirement.
A 403(b) provides many of the same advantages as a 401(k). The main difference is the type of employers who can offer a 403(b): public schools, nonprofit organizations and certain religious groups. Private-sector employers and employees contribute to 401(k)s.
What are the tax advantages?
The money you contribute to a traditional 403(b) comes directly from your paycheck before taxes are taken out. Those pretax contributions reduce the amount of income you pay taxes on.
The earnings you make from your investment grow tax-deferred as long as you keep the money in your 403(b), with some exceptions (more on this later). You will owe income tax on your earnings when make withdrawals, which you’re eligible to do after you reach age 59 ½.
If you contribute to a Roth 403(b), you’ll owe income taxes on your contributions now, but you can generally withdraw any earnings tax-free starting at age 59 ½ (as long as you’ve had the account for at least five years).
How much can I contribute to a 403(b)?
The IRS limits how much you can contribute to your 403(b). For 2017, workers younger than 50 can contribute a maximum of $18,000 per year. Workers age 50 and over can make additional “catch up” contributions of $6,000 per year, for a maximum of $24,000 annually.
If you’ve worked for your employer for 15 years, you may be able to make an additional catch-up contribution of up to $3,000 per year. The 15-year catch-up is separate from the age-50 catch-up.
The IRS rules about how to apply those catch ups get pretty complicated, but your human resources department or your tax professional can explain how they work in your situation.
For 2017 the limit is $54,000 or 100% of your “includible compensation,” whichever is less. “Includable compensation” is your taxable wages and benefits in your most recent year of service.
Yes. You can contribute to a 403(b) even if you also contribute to a 401(k), SIMPLE IRA or other qualified plan, but all your contributions combined count toward the annual limit. (Workers with 457(b) plans have separate limits.) That could happen if you work part of the year in the private sector and the remainder of the year in the public or nonprofit sector.
When can I withdraw money from my 403(b)?
After you reach age 59 ½, you can withdraw funds from your 403(b) without incurring the IRS 10% early distribution tax. The 10% tax on early withdrawals is designed to discourage people from raiding their nest eggs before retirement.
In case of an “unforeseeable emergency,” the IRS does allow 403(b) participants to make early withdrawals without paying the 10% penalty tax.
Having an emergency fund can help you when an unexpected financial crisis hits. The Goal Investor Emergency Planner quickly estimates how much you’ll need and how long it may take to save an adequate emergency cushion.
Examples of qualifying emergencies include:
- Illness or accident of the participant, beneficiary, spouse or dependents.
- Property loss caused by a natural disaster not covered by homeowners insurance.
- Medical bills or funeral expenses.
- Military reservists being called to active duty.
Retired public safety officials can withdraw up to $3,000 to pay for accident, health, or long-term care insurance.
You must start taking minimum distributions by April 1 of the year after you turn 70½, or the calendar year in which you retire.
Can I keep my 403(b) if I change jobs?
Yes. When you change jobs, you can either leave the money in your former employer’s 403(b) account, roll it into your new employer’s eligible retirement plan, or put it in an IRA you open for yourself.
You also have the option to cash out your account, but that could be a costly decision. In most cases, you’ll owe income tax on the money you take out, as well as a 10% penalty for withdrawing the funds early.
If you’re in a 25% tax bracket, you forfeit slightly more than one-third of your investments to taxes, and lose out on the opportunity for future earnings that could build your retirement fund.
How confident are you that you’re going to reach your retirement investment goals? Don’t guess. Use the Goal Investor retirement goal-setting process to quickly see where you’re headed.
This information is provided for educational purposes only and is not intended to provide investment or legal advice. SEI does not claim responsibility for the accuracy or reliability of the information provided.
Neither SEI nor its affiliates provide tax advice. Please note that (i) any discussion of U.S. tax matters contained in this communication cannot be used by you for the purpose of avoiding tax penalties; (ii) this communication was written to support the promotion or marketing of the matters addressed herein; and (iii) you should seek advice based on your particular circumstances from an independent tax advisor.