What is a 403(b)?
posted by Fisher 401(k) June 3, 2019
What is a 403(b) retirement plan?
A 403(b) plan is a special kind of retirement plan for the employees of certain non-profit organizations. As in a 401(k) plan, a 403(b) plan allows employees to choose to save a percentage of their salary, tax-deferred, and invest that money for retirement. Qualifying employers who offer a 403(b) plan may work with advisers who also specialize in helping for-profit employers with 401(k) plans.
Who can offer a 403(b) retirement plan?
Employers who can offer a 403(b) plan are tax-exempt organizations in the following sectors: Public school system, health services, civilian faculty and staff of the Uniformed Services University of the Health Sciences, and certain religious organizations. Here are more details:1
• Tax-exempt organizations established under section 501(c)(3). These organizations are usually referred to as 501(c)(3) organizations.
• Public school systems, including school systems organized by Indian tribal governments. In order to be eligible for participation in a 403(b) plan, an employee must actively work in the day-to-day operations of the school system.
• Cooperative hospital service organizations.
• Civilian faculty and staff of the Uniformed Services University of the Health Sciences.
• Certain religious organizations that employ ministers. In order to be eligible to participate, a minister must be employed by section 501(c)(3) organizations, be self-employed and working for a tax-exempt organization, or be a chaplain whose day-to-day function is as a minister employed by an organization that is not a 501(c)(3).
403(b) vs. 401(k)
In many ways, a 403(b)—also known as a “tax-sheltered annuity”—is similar to a 401(k) plan. They are also different in some ways, including investment options and contribution limits. As with any employer-sponsored retirement plan, employers have a fiduciary responsibility to offer 403(b) plans at a reasonable cost to their employees, and for their benefit exclusively. But there are also some qualities that make 403(b) plans different from a traditional 401(k). Here is how 403(b) and 401(k) plans compare.
403(b) Investment Options
The money saved in a 403(b) account can often be invested in mutual funds and bonds, just like a 401(k) account.2One difference, however, is that most 403(b) accounts are usually crafted by insurance companies, and certain 403(b) plans are held as individual annuity accounts for employees. In other words, employees in some 403(b) plans may have less freedom to choose their individual investments, since their money will be invested in an annuity by default.3Most 403(b) plans are also restricted from offering Collective Investment Trusts (CITs)—which are private funds that are typically lower cost—but plans set up for churches (known as 403(b)9 plans) are CIT eligible.
Given their status as a non-profit, an employer with a 403(b) can offer very generous matching contributions. This is because, as a non-profit entity, they can't retain their annual profit. A common employer match setup in a 403(b) is $.50 for every $1 an employee saves, up to a certain percentage of their annual salary.
In terms of contribution limits, 403(b) plans have one unique feature: Lifetime catch-up contributions. Unlike a 401(k), employees with a 403(b) account can make additional catch-up contributions for the entirety of their past work with a qualifying employer. If an employee has worked for the employer for at least 15 years, and if their average annual contribution did not exceed $5,000 throughout that period, they are allowed to save beyond the normal maximum limits.4 The amount allowed under this rule is the lesser of:
• $15,000 minus the amount of contributions made in prior years, or;
• $5,000 for every past year of service minus the amount of contributions made in prior years5
Just as many 401(k) plans offer employees the opportunity to take out 401(k) loans against their savings, 403(b) plans have this option, as well.6 Employers can choose whether they’d like to offer loans as part of their 403(b) or not, and have many options when it comes to determining minimum loan amounts, repayment terms, and interest charges. Typically, when an employee takes out a 403(b) loan, their repayment schedule will be determined in advance and payments will be taken out in equal portions from their paychecks until the loan is repaid.
The law governing 403(b) plans exempts them from some of the administrative processes that apply to 401(k) plans.7That means potentially lower administrative costs, but because most 403(b) providers are insurance platforms that might not clearly disclose their fees, the employer will want to do their homework to see whether a 401(k) or 403(b) will be cheaper for their business. This means taking a look at their 408(b)(2) fee disclosure and seeing how their fees stack up side-by-side.
Customized Retirement Plans for Every Organization
Between traditional 401(k) plans and specialized options like the 403(b) plan for non-profit organizations, employers have a wide variety of retirement plan options to fit their unique needs. Talk to Fisher Investments about how we can help you meet your goals with customized retirement plan options and reliable support for employer and employee alike.