Most workers have heard of 401(k) plans and their usefulness in saving toward retirement, but there are other tax-favored retirement savings vehicles that are available to certain employees. For those who work in the education or medical professions as well as for nonprofit organizations, many employers offer 403(b) plans to their workers.
403(b) plans are similar in many ways to 401(k)s, and one thing they share in common is the ability to make large contributions toward retirement. In 2018, the amount that those who are under age 50 can contribute to a 403(b) will rise by $500 to $18,500, and those who are 50 or older will get a $500 boost as well, to $24,500. In addition, some employers integrate into their plans an additional catch-up contribution option that allows those who've had 15 years or more of service with the organization to make an additional $3,000 in contributions annually.
Let's look more closely at 403(b) plans to see how those who have access to these plans can put them to maximum advantage.
The basics of 403(b) plans
403(b) plans get their name from Section 403(b) of the Internal Revenue Code, which sets forth the tax breaks that they offer as well as the restrictions on the plans. 403(b) plans are available specifically to public schools as well as employers that qualify as tax-exempt charitable organizations. Most of the workers you'll find with access to 403(b) plans therefore tend to work for schools, nonprofit hospitals and healthcare providers, and charities.
403(b) plans also allow for employers to supplement their employees' contributions with their own additions. Discretionary or matching contributions from employers are permitted, subject to a total combined maximum of $55,000 in employer plus employee contributions for those under 50 and $61,000 for those 50 or older. However, employer contributions aren't quite as common or as generous as in the 401(k) realm, typically because the nonprofit nature of these businesses doesn't give them as much latitude to offer top-end benefits packages in many cases.
One thing to be aware of is what investment options your 403(b) plans offers. Originally, employers had to use annuity products from insurance companies to get the tax benefits of 403(b)s, and although those restrictions have gone away to allow traditional mutual funds and similar investments, some plans nevertheless have higher-cost annuities that aren't ideally suited to every investor's needs.
Roth or regular?
The high amounts that you can save in a 403(b) plan make them quite useful. As with 401(k)s, there are traditional or Roth 403(b) plans, with employers having the choice of whether to give workers access to both.
Traditional 403(b)s involve having employees save pretax money and letting it grow tax-deferred within the account. As an example, if your total income from work is $50,000 and you take $5,000 of it and contribute it to your 403(b), then your gross income will drop by that $5,000 to $45,000. Thereafter, you won't have to pay income tax on the investment income that your 403(b) account generates. Only when you withdraw money in retirement will you pay income tax on what you take out.
Roth 403(b)s involve saving after-tax money and letting it grow on a tax-free basis within the account. As long as you meet the requirements, you'll never pay tax again on Roth 403(b) money, even when you withdraw it in retirement.
Maxing out your savings
If you can save in a 403(b) plan, it usually makes sense to do so, especially if you want to put as much money aside as possible. Alternatives like IRAs are available, but IRA contribution limits of just $5,500 for those under 50 or $6,500 for those 50 or older are quite a bit more limited.
403(b) plans aren't as popular as their 401(k) counterparts, but 403(b)s serve a key role in ensuring retirement security and success in financial planning. If your employer sets up a high-quality plan with good investment choices, then a 403(b) can be exactly what you need to reach your retirement goals.