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403(b) Plan: Contributions
A 403(b) account may receive the following types of contributions:
- elective-deferral contributions, which are deducted from employee paychecks on a pretax basis
- employer contributions, which can be fixed or discretionary
- after-tax contributions, which are deducted from employee paychecks on an after-tax basis
- a combination of any of the three contribution types listed above
Employer Contribution Limit
An organization may contribute up to 100% of the aggregate compensation paid to eligible employees. Say a company has five eligible employees who earn an aggregate compensation of $110,000. The organization may contribute from $0 to $110,000 to the overall plan, but no employee may receive contributions in excess of $44,000 or 100% of his or her compensation, whichever is less. For this purpose of determining an employee's contribution limit, any employee's compensation in excess of $220,000, which is the compensation cap, is not considered.
Contribution Formulas
An employer may chose among several formulas to calculate contribution allocations:
- Pro-rata - The pro-rata formula results in each eligible employee receiving the same percentage of his or her eligible compensation.
- Social security integration - This formula awards higher-paid employees with a larger percentage of their compensation. The employer assigns to the 403(b) plan an amount that is a percentage of the accumulated total of all eligible employees' compensation. Using a special formula, the employer then allocates a contribution percentage to each eligible employee. The allocation must be done according to specific IRS-provided requirements; otherwise, the plan may be disqualified.
Deferral Contribution Limits
An employee may elect to defer 100% of compensation up to a set dollar limit for that year (see chart below):
Tax Year
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Elective-Deferral Contribution Limit
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2002
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$11,000
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2003
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$12,000
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2004
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$13,000
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2005
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$14,000
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2006 and after
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$15,000 plus cost-of-living adjustments (COLA) increases
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Deferral contributions in excess of these limits are excess deferrals, which must be removed from the employee's 403(b) plan account within certain time frames. Excess contributions require special administrative handling and will be assessed penalties if not removed within these time frames.
Eligible employees who are at least age 50 by the end of the year may make additional contributions, which are called catch-up contributions. The catch-up contribution limits for different tax years are as follows:
Tax Year
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Catch-Up Contribution Limit (for eligible employees age 50 and older)
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2002
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$1,000
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2003
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$2,000
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2004
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$3,000
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2005
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$4,000
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2006 and after
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$5,000 plus COLA increases
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The combined elective-deferral and employer contribution cannot exceed $44,000 (plus catch-up contributions).
Note: Employees with 15 years of service, to whom special rules apply, must consult with their employer regarding these special provisions and their availability.
Investment Options
The investment options for a 403(b) account are determined by the 403(b) product:
- A 403(b) annuity contract must invest in an annuity product provided through an insurance company. The product may be a variable or fixed annuity contract.
- A custodial account, which is provided through a retirement account custodian, must invest in regulated investment companies, such as mutual funds.
- A retirement income account may invest in vehicles such as annuities and publicly traded securities. Only churches and church-related organizations may establish retirement income accounts.
Generally, employees are allowed to select investments within the parameters stated above.
Next: 403(b) Plan: Distributions
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