403(b) Plan: Guide to Tax-Sheltered Annuity Plan For Retirement
Have you been thinking of investment strategies for saving for your retirement to live your golden years like a royal individual?
Your choice of investments can significantly impact your savings growth. Hence, it is important to plan efficiently and responsibly.
It can be hard to choose among the many different ideal retirement savings plans that will provide the greatest number of benefits. Each type of retirement account or savings plan has its charm and distinct advantages and disadvantages.
One such retirement account is a 403(b), and it is best suited for NGOs, tax-exempt organizations, and many other employees working as teachers, doctors, nurses, etc.
If you plan to save for retirement through a 403(b) account, this article will help you know almost everything about the 403(b) account.
What is a 403(b)?
403(b) is a tax-advantaged retirement account mainly for employees working in public schools or other tax-exempt organizations. A 403(b) can be accessed by any public school, and eligible employees include nurses, doctors, librarians, professors, church employees, university staff, teachers, admin staff of the school, and even government employees. Additionally, a 403(b) also caters to non-profit organizations. Hence, this program caters to many different participants who might be planning for their retirement.
In the 403(b), you get to enjoy tax benefits, and the money you save for retirement is through payroll deductions. 403(b) also allows matching contributions depending on the type of 403(b) you choose.
Moreover, 403(b) is closely linked to what a 401(k) is like. However, 403(b) has its own set of advantages and features that sets it apart.
How Does a 403(b) Work?
As mentioned above, 403(b) facilitates a wide array of employees. You need to know several features about a 403(b). They are stated as follows:
Contribution Limits
In 2022, the employee contribution limit for a 403(b) is equal to $20,500 if you fall under the age of 50. Otherwise, if you are 50 or over, you can make an additional $6,500 catch-up contribution; hence your maximum contribution limit will be around $27,500.
The combined limit of employee and employer contribution for a 403(b) in 2022 equals $61,000.
Unlike many other retirement accounts, with a 403(b), you can also make bonus catch-up contributions if you have worked for an eligible organization for more than 15 years. The bonus amount you can contribute is up to $3,000.
Additionally, you have the choice of employer contributions depending on the type of 403(b) account you choose.
403(b) Investment Choices
In 403(b), the available investment options are slightly fewer than other retirement plans. Commonly, you can invest in annuities and mutual funds. As in a 401k, for a 403(b), you cannot invest in exchange-traded funds or individual stocks. Therefore, investment options are limited to annuity contracts provided by any insurance company, mutual funds, etc.
You can invest with funds administered by Fidelity Investments as well. One type of mutual fund you can invest in is target-date funds, making your investment strategy seamless. Overall, 403(b) offers a lesser choice of investments.
403(b) Withdrawals
Like any other retirement account, standard withdrawals are made once you turn 59 and a half. After the age of 59 and a half, you can ask for in-service withdrawals. You can also make standard withdrawals before age 59 and a half in case of any financial hardship or if you turn disabled. In these cases, there won't be any tax penalty either. If you have chosen a traditional 403(b) account, your withdrawals will be treated as taxable income. However, if you have chosen a Roth-403(b), your withdrawals will not be taxed.
You might be subject to a withdrawal tax penalty if you decide to opt for withdrawals before the age of 59 and a half.
If you pass away, your beneficiaries can withdraw your plan assets.
You can withdraw earlier in case of unexpected medical expenses, and hardship withdrawals are permitted. You can do so by requesting a hardship distribution. In these cases, the withdrawal penalty is pardoned.
Required Minimum Distributions
You will be required to start withdrawing your money from the account after turning 72. Like how you have to face a withdrawal penalty at early withdrawal, you will be subject to a tax penalty if you don't withdraw money at the age of 72.
Your investment provider can calculate the required minimum distribution.
If you do not withdraw at that particular age, you might be subject to a tax penalty.
What are the Different Types of 403(b) Accounts?
403(b) can be categorized into 2 different main types. These types differ mainly in taxes, withdrawals, and contributions.
Traditional 403(b)
With a traditional 403(b), your contributions are pre-tax contributions. When you contribute, the amount is deducted from your regular income, and then the income tax is paid. Hence, your contributions are excluded from tax, and you get a tax break. You pay taxes when you withdraw money from your 403(b). This promotes tax advantage as the tax bracket at your retirement might be low, making you pay less income tax. However, your withdrawals are treated as taxable income.
Roth 403(b)
With a 403(b), the money you contribute is after-tax. This provides you with a tax advantage as you won't have to pay any tax when you withdraw money from the amount. Rather you will have already paid the tax at the time of contribution.
Therefore, the tax advantages are provided later through a Roth 403(b). You can let the money grow in your account without worrying about having to pay taxes at a later stage when you are ready to withdraw.
What Are the Advantages of a 403(b)?
Tax-deferred Returns
Your returns, investment earnings, and your money's growth are tax-deferred in a standard 403(b) account. They cease to exist on a tax-deferred basis at withdrawal.
Administration Cost
The administrative costs and management fees of 401(b) plans associated with the Employee Retirement Income Security Act are pretty low and not heavy on the employee to pay.
Vesting funds
403(b) plans promote the vesting of funds immediately, and this is usually not a feature of other accounts such as 401(k).
The vesting schedule tells when you can withdraw the employer contribution funds. A huge advantage of 403(b) is that the vesting schedules are relatively for a shorter period, and you can keep the matching contributions regardless of when you leave the job.
Additional Catch-Up Contributions
Through a 403(b), all eligible employees can make additional contributions once they turn 50 and above. You also get to make bonus contributions if you have been associated with the same organization or any government agency for more than 15 years. The lifetime limit of these bonus contributions sums up to $15,000. The bonus contribution is a unique feature offered by the 403(b) plan.
Therefore, the annual limit for contributions also becomes higher than most retirement plans.
Employer Matching
With 403(b) plans, employers might match contributions to increase growth in your savings account. This is similar to what happens in a 401(k) account.
How is a 403(b) Different From a 401(k)?
However, there are many similarities between 403(b) and 401k, and key differences set them apart. Both plans offer individuals a tax-advantaged way to save efficiently.
For example, both have the same basic contribution limits, such as the $6,500 catch-up contribution; however, in a 403(b), you can also make extra contributions after working for 15 years in the same organization.
One major difference between them is who they are offered to mainly and by whom. While 401k plans are offered by private employers who are for-profit companies, 403(b) are generally for employees of the non-profit organizations and other public systems such as church employees, school teachers, etc.
While 401k and 403(b) have a low number of choices of investments, the list of investment options in a 401k is more than a 403(b).
Another difference is that while 403(b) plans are associated with insurance companies, 401k plans are associated with mutual fund companies. Specifically with a 401(k) you can convert a 401(k) to gold IRA as a way to invest in other options.
With a 403(b), the vesting of funds is easier and seamless in a 401(k). Employer-sponsored retirement plans include a vesting period. The vesting period is the amount of time you have to wait before you can access the employer contributions. These periods can last for six years, and you might lose all the contributions if you decide to leave the company a little earlier. In 403(b), these vesting periods are either completely omitted or extremely short.
Wrapping Up
Properly laid out retirement savings plans can make your retirement extremely comfortable. With the many different types of retirement plans, it can become a challenge to understand which one will provide you with maximum benefits and income tax advantages.
Employees of a tax-exempt organization or a public school system might be aware of the 403(b) retirement plan. This plan provides them with tax advantages once they make their retirement contributions.
Now you know that this retirement plan is quite similar to 401(k) however has its differences.
We hope you can now understand what a 403(b) is and what are its features and advantages. We hope you form a retirement plan for yourself that maximizes your benefits!
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