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403(b) Plan: Eligibility Requirements

Who May Establish and Participate in a 403(b) Plan? 

Only public schools and 501(c)(3) organizations are allowed to establish 403(b) plans. The employees who may contribute to a 403(b) plan under IRS rules are employees of public schools who are involved in their day-to-day operations, employees of 501(c)(3) tax-exempt organizations, employees of cooperative hospital service organizations, civilian faculty and staff of the Uniformed Services University of the Health Sciences, and certain ministers.Eligible ministers include those who work for 501(c)(3) organizations, those who are self-employed, and those who are employed by non-501(c)(3) organizations but who function as ministers for their employers (also known as chaplains, who may work for prisons, the US army, or hospitals, for example). 

If an employer offers a 403(b) plan, all eligible employees must be allowed to make elective deferrals, which are contributions that come directly out of one’s paycheck. (See also: Top 9 Benefits Of A 403(b) Plan - Investopedia)

How Is a 403(b) Plan Established?

Employees cannot set up their own 403(b) plans. Employers must set up 403(b) plans for their employees to contribute to. Employers can set up and administer their own plans, but they usually hire an outside firm that specializes in these tasks, as we mentioned in section 1.

The IRS says all plans must be in writing and must contain certain language called “mandatory provisions.” Those provisions must do the following:

  • explain who is eligible to participate
  • not favor highly compensated employees
  • adhere to contribution and benefit limits
  • provide one of the three allowed plan types (see below)
  • not make distributions unless a participant severs employment, has a hardship, becomes disabled or turns 59½

Establishing Accounts under the Plan

As mentioned in section 1, employers must establish individual accounts that are one of the three allowed plan types:

  • an annuity contract from an insurance company (See also: What is an annuity?)
  • a custodial account invested in mutual funds
  • a retirement income account for church employees that invests in annuities or mutual funds

Investment Options

As we’ve explained in previous sections, 403(b) contributions can be placed in one of the following investments: 

  • An annuity contract from an insurance company.
  • A custodial account invested in mutual funds.
  • A retirement income account for church employees that invests in annuities or mutual funds. A retirement income account (RIA) is just another name for a defined contribution account established or maintained by a church-related organization.


An annuity is an insurance contract that provides a guaranteed investment. The annuity contract can be variable or fixed.

A variable annuity provides periodic payments for the rest of your life, which helps protect against the risk of outliving your assets. It also pays a death benefit to your beneficiary if you die before you start receiving payments. A variable annuity is usually invested in mutual funds. As such, the payments you receive will depend on investment performance.

A fixed annuity pays a guaranteed interest rate regardless of what’s happening in the stock market. It may also pay a higher interest rate for one to five years, called the “current rate.” 

An equity-indexed annuity is a type of fixed annuity. The returns you receive are based on the returns of a stock market index such as the S&P 500, Dow Jones Industrial Average or Nasdaq. “Equity” is another term for stock.

The potential downside of choosing an annuity over mutual funds is that the fees can be expensive, especially if you withdraw your money early and have to pay a penalty.

A custodial account, also called a 403(b)(7) account, is an employer-sponsored account through which you can invest in mutual funds. Mutual funds let you invest in a large basket of stocks, bonds or both. Mutual funds have annual investment fees, and some also have commissions called “loads” when you buy or sell. If you have a custodial account, you can choose from among various investments that the plan vendor offers. You may be able to choose your plan vendor (e.g., TIAA or Fidelity), but unlike with an IRA, you may not have access to every investment on the market.

If you invest in mutual funds, it is possible to lose money, but you can also earn substantial returns. Different mutual funds take different levels of investment risk, so you can probably find one that’s right for you. Neither annuities nor mutual funds are FDIC insured. 

Not sure which to choose? With some plans, you may be able to invest in both annuities and mutual funds. 

After establishing a 403(b) plan, employers must then obtain an employee identification number (EIN) from the IRS for the plan and provide a summary plan description to participating employees if their plan is subject to the Employee Retirement Income Security Act (ERISA). Unlike 401(k) plans, not all 403(b) plans are subject to ERISA. 

Employers must also deposit employee contributions in a timely manner; follow tax reporting requirements; conduct periodic plan reviews; update or amend the plan if the law changes; conduct annual nondiscrimination testing; and make sure participants adhere to contribution limits, loan limits and withdrawal requirements.

If employers don’t follow their written programs, the plan can lose its tax-deferred status,which harms both the employer and its employees.

In the next section, we’ll talk about 403(b) contributions.

403(b) Plan: Contributions