Converting Your 403(b) to a 401(k)

The Internal Revenue Service (IRS) says you can roll a 403(b) plan into a 401(k) plan if you work for an employer that offers a 401(k). You can also roll a 403(b) plan into a solo or independent 401(k) plan if you are self-employed.

However, if you work for an employer that does not offer a 401(k) plan, then you cannot roll a 403(b) plan into any type of 401(k) plan.

Understanding a Conversion From a 403(b) to a 401(k)

The 403(b) and 401(k) retirement plans are similar in their design and features. Both are tax-deferred plans that allow your earnings to grow tax-free, but you’re taxed on the distributions or withdrawals in retirement. Both plans require participants to reach age 59½ before withdrawing funds; otherwise, they’ll face an early withdrawal penalty of 10% of the distribution and face income taxes on the distribution total. However, 403(b) plans are reserved for government employees such as teachers, while 401(k)s are reserved for the private sector.

Contribution Limits for 403(b) and 401(k) Plans

The 403(b) and 401(k) plans have a contribution limit per year, meaning that is the maximum amount you can contribute annually. In 2022, this limit is $20,500, and for 2023, the contribution limit increases to $22,500. However and for tax year 2022, those aged 50 and older can contribute an additional $6,500 per year as a catch-up contribution. The catch-up contribution increase to $7,500 in 2023.

Also, the total contribution limit to the plan for both the employee and employer must be the lesser of $61,000 in 2022 or 100% of the employee's most recent yearly salary. In 2023, the amount rises to $66,000.

Eligible Accounts for Rollovers

The funds within your 403(b) plan can be rolled over into a 401(k) plan with your current employer. You can also roll or transfer the funds into a SEP plan or 457 plan if your employer offers one of them. The rollover also works in reverse: If you had a 401(k) at the old job and the new employer offers only a 403(b), you can roll over part or all of those funds, too.

Of course, you can always roll a 403(b) or other qualified plan offered by a previous employer into a traditional individual retirement account (IRA) or Roth IRA.

These rules allow you to then roll that money over into a 401(k) plan if you are hired by an employer that offers this plan in the future. This is only as long as the money from the 403(b) plan has not been commingled with contributory funds that you deposited into the IRA.

While the IRS regulations allow the rollover of assets between 401(k) plans and 403(b) plans, employers are not required to allow rollovers into the plans they maintain. Whichever transfer you're thinking of, your employer must permit it.

Rollover Details

Contributions to 401(k) and 403(b) retirement plans are made with pre-tax dollars, meaning the owner saves on income taxes in the year the contribution was made. In other words, when determining the income taxes owed for the year, the individual's annual income is reduced by the total contributions for that year, thus reducing taxable income. As a result, rollovers or transfers from a 403(b) into a traditional retirement plan, such as a 401(k), are usually tax-free since they are both funded with pre-tax dollars.

Conversely, Roth retirement accounts don't offer pre-tax contributions, meaning the funds are contributed with after-tax dollars or after taxes have been taken out of the person's wages. As a result, if a traditional 403(b) or 401(k) plan is converted and the funds transferred into a Roth IRA or a Roth 401(k), the funds are subject to income tax. However, a Roth 401(k) or 403(b) can be rolled over into a Roth IRA, tax-free.

Required minimum distributions (RMDs), hardship distributions, corrective distributions, and any payments spread over the plan participant's life or for 10 years are not eligible to be rolled over.

Mixed Contributions

If the 403(b) account has both pre-tax and after-tax contributions, a distribution is considered to come from the pre-tax money, contributions, and taxable earnings first. Any non-taxable portion of the distribution, including after-tax contributions, can be rolled into a traditional or Roth IRA or to another eligible plan that accounts separately for taxable and non-taxable contributions.

For example, if someone has a 403(b) consisting solely of pre-tax contributions and earnings. They can request a direct rollover of some or all of the account into a traditional IRA, a 401(k), another 403(b), or a government-eligible 457 plan with no tax consequences. The transaction does have to be reported on his next income tax return.

If they roll it into a Roth IRA, the distribution will be considered taxable income because Roth IRAs don't provide a tax deduction for contributions, meaning they use after-tax dollars. However, Roth IRAs don't have any taxes on withdrawals in retirement, unlike other IRAs that offer pre-tax contributions.

Direct and Indirect Rollovers

Direct rollovers, trustee to trustee, are not subject to tax withholding. A direct rollover is when the retirement plan administrator makes the payment directly to another retirement plan or an IRA. It's important to note that the administrator may issue a check made payable to the new account, which must be deposited within 60 days. No taxes will be withheld from the transfer amount, but there could be a penalty if the money is not re-deposited into the new IRA within the 60-day period.

The safest way to process a direct rollover is to have the administrator process a trustee-to-trustee transfer, which electronically transfers the funds from the old plan to the new one. The IRA owner does not receive a check, and there are no taxes withheld nor any penalties.

Indirect rollovers are when the check is made out to and sent directly to the plan participant. An indirect rollover is subject to 20% withholding. For an indirect rollover to remain completely untaxed, the participant has to make up the withheld amount.

Example of a Rollover

For example, River has decided to request an indirect rollover of $10,000 from their 403(b). Their plan's trustee withholds 20%. River gets a check for $8,000. Then, they have to come up with $2,000 from other sources, or their rollover will only be $8,000. The $2,000 will be taxable income and subject to an early distribution penalty of 10% if they are under age 59½.

With indirect rollovers, the IRA owner gives the funds via check to the account owner, and the funds must be re-deposited into the new IRA within 60 days to avoid penalty.