Loading the player...

What is a '403(b) Plan'

A 403(b) plan is a retirement plan for specific employees of public schools, tax-exempt organizations and certain ministers. These plans can invest in either annuities or mutual funds. A 403(b) plan is another name for a tax-sheltered annuity (TSA) plan. The features of a 403(b) plan are comparable to those found in a 401(k) plan.

BREAKING DOWN '403(b) Plan'

Employees may make salary deferral contributions. However, they are bound by regulatory limits. Individual accounts in a 403(b) plan include an annuity contract, bought through an insurance company or a custodial account, which invests in mutual funds or a retirement income account established for church workers.

Employees of tax-exempt organizations are eligible to participate in the plan. Participants include teachers, school administrators, professors, government employees, nurses, doctors and librarians. A TSA is another funding source for retirement in addition to a retirement plan or pension that helps employees meet their retirement goals. Many plans vest funds over a shorter period than 401(k) plans or may allow immediate vesting of funds.

Benefits

Earnings and returns on amounts in a 403(b) plan are tax-deferred until withdrawn. Earnings and returns on amounts in a Roth 403(b) are tax-deferred if the withdrawals are qualified distributions. Employees age 50 or over can make catch-up contributions to both plan types. Employees may be eligible for matching contributions, which varies by employer.

For example, an employer matches funds at 50% of any contributions an employee gives, up to 6% of an employee's salary. If an employee earns $75,000 and contributes 6%, or $4,500, the employer contributes $2,250, which is essentially free money towards the employee's retirement. This helps employees exceed the annual maximum contribution limits, receive tax deductions and accelerate their retirement goals.

How to Contribute

Different types of contributions fund TSAs, such as after-tax contributions, nonelective contributions and elective deferrals. After-tax contributions are voluntary contributions up to 25% of a participant's salary that a participant must include in income when filing taxes. Nonelective contributions are mandatory employer contributions, such as discretionary contributions that include end-of-plan-year contributions or profit-sharing contributions.

Elective deferrals are voluntary contributions set up by the employee that allows an employer to withhold money from the employee's paycheck to be paid directly into his TSA. These contributions are a percentage of the employee's salary. Another funding option is using a combination of elective, nonelective and after-tax contributions.

Disadvantages

A TSA plan withdrawal before age 59 1/2 is subject to a 10% tax penalty. A participant may avoid the 10% penalty under certain circumstances, such as separating from an employer when a person reaches age 55, a qualified medical expense, death of the employee or disability. Withdrawals assess a 20% federal income tax withholding unless the total amount is transferred to another qualified retirement plan or individual retirement account. However, if a participant wants to dissolve an annuity investment, the participant must pay a surrender charge of up to 8% of the investment.

RELATED TERMS
  1. Employee Contribution Plan

    A company-sponsored retirement plan where employees may elect ...
  2. Nonelective Contribution

    A type of contribution an employer chooses to make to each of ...
  3. Additional Voluntary Contribution ...

    An extra allocation of funds to a retirement savings account ...
  4. Matching Contribution

    A type of contribution an employer chooses to make to his or ...
  5. IRS Publication 571: Tax-Sheltered ...

    A document published by the Internal Revenue Service (IRS) that ...
  6. Designated Roth Account

    An individual retirement plan in which employees can have all ...
Related Articles
  1. Retirement

    Explaining the 403(b) Plan

    A retirement plan for certain employees of public schools, tax-exempt organizations and certain ministers.
  2. Financial Advisor

    The 4-1-1 on 403(b) Plans

    These plans resemble 401(k) plans in many respects, but are specially designed for nonprofit entities.
  3. Retirement

    What's a Defined Contribution Plan?

    A defined contribution plan is a company retirement plan that specifies the amount of money contributed to it.
  4. Retirement

    5 Companies With the Best Retirement Plans

    Ever wonder how your company retirement plan stacks up against the country's best employers? Take a peek at these great retirement plans.
  5. Financial Advisor

    Top 403(b) Questions Answered

    This plan doesn't get as much attention as its more popular cousin - the 401(k) - but it has a lot of benefits for eligible investors.
  6. Retirement

    5 Lesser-Known Retirement And Benefit Plans

    These plans aren't widely used, but they fill a specific niche for employees in certain situations.
  7. Retirement

    How to Save More for Your Retirement

    Be sure you know all the tax-advantaged ways in which you can save more for retirement.
  8. Retirement

    It’s Never Too Late to Contribute to Your 401(k)

    Find out why it is never the wrong time to start contributing to a 401(k), even in your late 30s, 40s or 50s; discover how to maximize your savings at any age.
  9. Financial Advisor

    Understanding Rules on Defined Benefit Pension Plans

    Defined benefit plans offer advantages to both employers and employees. Employers must understand the federal tax rules when establishing these plans.
RELATED FAQS
  1. What are qualified retirement plan types?

    Understand the different types of qualified retirement plans and what they mean in terms of employee and employer contribution ... Read Answer >>
  2. What are the contribution limits on a Simple IRA?

    Learn the 2014 contribution limits for investing in a SIMPLE IRA, meant for businesses with 100 or fewer employees to help ... Read Answer >>
Hot Definitions
  1. Trickle-Down Theory

    An economic idea which states that decreasing marginal and capital gains tax rates - especially for corporations, investors ...
  2. North American Free Trade Agreement - NAFTA

    A regulation implemented on Jan. 1, 1994, that eventually eliminated tariffs to encourage economic activity between the United ...
  3. Agency Theory

    A supposition that explains the relationship between principals and agents in business. Agency theory is concerned with resolving ...
  4. Treasury Bill - T-Bill

    A short-term debt obligation backed by the U.S. government with a maturity of less than one year. T-bills are sold in denominations ...
  5. Index

    A statistical measure of change in an economy or a securities market. In the case of financial markets, an index is a hypothetical ...
  6. Return on Market Value of Equity - ROME

    Return on market value of equity (ROME) is a comparative measure typically used by analysts to identify companies that generate ...
Trading Center