403(b)
What the 403(b) Is:
The 403(b) is a tax deferred retirement plan available for certain employees of public schools, employees of certain tax-exempt organizations, and certain ministers. If uncertain of your eligibility, consult your employer.
The 403(b) has often been referred to as a Tax Deferred Annuity (TDA) or a Tax Sheltered Annuity (TSA). This is a misnomer and gives the false impression that a participant must invest in annuity products. This is not true. Way back in 1974 Congress granted participants the ability to contribute directly in mutual funds when they added paragraph 7 to the code creating the 403(b)(7) custodial account. Throughout this site the term 403(b) is intended to mean all of the following: 403(b), 403(b)(7), TDA, and TSA. Ultimately, the 403(b) plan is a defined contribution plan (often called a DC plan), where the participant makes contributions and investment decisions, as opposed to a pension or defined benefit plan (often called a DB plan), where the employer makes all, or a majority of contributions and all of the investment decisions.
Why the 403(b) is Important
The 403(b) can be an excellent way to save money for retirement whether as a supplement to a traditional pension plan or other retirement plan(s), or as a stand-alone plan.
How the 403(b) Works
Employees set aside money for retirement on a pre-tax basis through a salary reduction agreement with their employer. Contributions and earnings on investments grow tax deferred until the time of retirement, when withdrawals are taxed as ordinary income.
What Tax Deferred Means
An employee in the 15 percent federal tax bracket would reduce their taxable obligation by 15 cents for each dollar contributed to a 403(b). In effect, a $1 contribution would only cost the participant 85 cents. Employees in higher tax brackets would reduce tax obligation by even more.
How Much Can Be Contributed
For 2011, employees can contribute $16,500 in regular contributions. The IRS refers to regular contributions as elective deferrals. A Participant age 50 or older at any time during the year can contribute an additional $5,500. For those with employer matches or other employer contributions, limit is $49,000, or 100% of compensation (whichever is less). The participant is still limited to the employee elective deferral limit ($16,500). An employer can add up to another $32,500.
15 YEARS OF SERVICE PROVISION
Employees with 15 years or more of service with an employer and an annual average contribution of less than $5,000 per year, are eligible to contribute an additional $3,000 per year up to a lifetime maximum catch-up of $15,000.
NOTE: For participants eligible for both the Age 50 Catch-up and the 15 Years of Service provision, the IRS will apply contributions above the 2011 limit of $16,500 first to the 15 Years of Service provision. For example, if an employee eligible for both catch-ups contributed $20,000, $16,500 would count toward the regular contribution limit; $3,000 would count toward the 15 Years of Service provision; and $500 would count toward the Age 50 Catch-up. If this was the first contribution this participant had made toward the 15 Years of Service provision, the amount they would be able to contribute to this catch-up in the future would be reduced from $15,000 (the lifetime maximum) to $12,000 ($15,000 less the $3,000 contribution).
Where the 403(b) Can Be Invested
403(b) money can be invested in a fixed annuity; and/or variable annuity; and/or a mutual fund.
FIXED ANNUITIES
Fixed annuities operate much like certificates of deposit but are not insured by the Federal Deposit Insurance Company (FDIC). Generally, investors are given two interest rates: the current rate and the guaranteed rate. The current rate is the return that the insurance company promises to pay for a set period of time, typically between one and five years. The guaranteed rate, usually lower, is the minimum rate that investors will receive after the current rate expires, regardless of market conditions.
VARIABLE ANNUITIES
A variable annuity offers a range of investment options — typically mutual funds that invest in stocks, bonds, short-term money-market instruments, or some combination of the three. These investments options are referred to as the subaccount. The value of the investment will vary depending on the performance of the investments in the subaccount. There is usually a death benefit that will pay a beneficiary the greater of the account value or a guaranteed minimum amount, such as total purchase payments. Variable annuities are securities regulated by the Securities and Exchange Commission (SEC).
MUTUAL FUNDS
A mutual fund is an investment that pools money from many participants and invests in stocks, bonds, short-term money-market instruments, or some combination of the three. The combined holdings of stocks, bonds, or other assets that the fund owns are known as its portfolio. Each investor in the fund owns shares, which represent a part of these holdings. There are two kinds of mutual funds: loaded mutual funds and no-load mutual funds. A load is a commission the investor must pay in order to purchase/sell that fund. All mutual funds have operating costs. Mutual funds are securities regulated by the SEC but are not guaranteed or insured by the FDIC or any other government agency.
The 403(b) is a tax deferred retirement plan available for certain employees of public schools, employees of certain tax-exempt organizations, and certain ministers. If uncertain of your eligibility, consult your employer.
The 403(b) has often been referred to as a Tax Deferred Annuity (TDA) or a Tax Sheltered Annuity (TSA). This is a misnomer and gives the false impression that a participant must invest in annuity products. This is not true. Way back in 1974 Congress granted participants the ability to contribute directly in mutual funds when they added paragraph 7 to the code creating the 403(b)(7) custodial account. Throughout this site the term 403(b) is intended to mean all of the following: 403(b), 403(b)(7), TDA, and TSA. Ultimately, the 403(b) plan is a defined contribution plan (often called a DC plan), where the participant makes contributions and investment decisions, as opposed to a pension or defined benefit plan (often called a DB plan), where the employer makes all, or a majority of contributions and all of the investment decisions.
Why the 403(b) is Important
The 403(b) can be an excellent way to save money for retirement whether as a supplement to a traditional pension plan or other retirement plan(s), or as a stand-alone plan.
How the 403(b) Works
Employees set aside money for retirement on a pre-tax basis through a salary reduction agreement with their employer. Contributions and earnings on investments grow tax deferred until the time of retirement, when withdrawals are taxed as ordinary income.
What Tax Deferred Means
An employee in the 15 percent federal tax bracket would reduce their taxable obligation by 15 cents for each dollar contributed to a 403(b). In effect, a $1 contribution would only cost the participant 85 cents. Employees in higher tax brackets would reduce tax obligation by even more.
How Much Can Be Contributed
For 2011, employees can contribute $16,500 in regular contributions. The IRS refers to regular contributions as elective deferrals. A Participant age 50 or older at any time during the year can contribute an additional $5,500. For those with employer matches or other employer contributions, limit is $49,000, or 100% of compensation (whichever is less). The participant is still limited to the employee elective deferral limit ($16,500). An employer can add up to another $32,500.
15 YEARS OF SERVICE PROVISION
Employees with 15 years or more of service with an employer and an annual average contribution of less than $5,000 per year, are eligible to contribute an additional $3,000 per year up to a lifetime maximum catch-up of $15,000.
NOTE: For participants eligible for both the Age 50 Catch-up and the 15 Years of Service provision, the IRS will apply contributions above the 2011 limit of $16,500 first to the 15 Years of Service provision. For example, if an employee eligible for both catch-ups contributed $20,000, $16,500 would count toward the regular contribution limit; $3,000 would count toward the 15 Years of Service provision; and $500 would count toward the Age 50 Catch-up. If this was the first contribution this participant had made toward the 15 Years of Service provision, the amount they would be able to contribute to this catch-up in the future would be reduced from $15,000 (the lifetime maximum) to $12,000 ($15,000 less the $3,000 contribution).
Where the 403(b) Can Be Invested
403(b) money can be invested in a fixed annuity; and/or variable annuity; and/or a mutual fund.
FIXED ANNUITIES
Fixed annuities operate much like certificates of deposit but are not insured by the Federal Deposit Insurance Company (FDIC). Generally, investors are given two interest rates: the current rate and the guaranteed rate. The current rate is the return that the insurance company promises to pay for a set period of time, typically between one and five years. The guaranteed rate, usually lower, is the minimum rate that investors will receive after the current rate expires, regardless of market conditions.
VARIABLE ANNUITIES
A variable annuity offers a range of investment options — typically mutual funds that invest in stocks, bonds, short-term money-market instruments, or some combination of the three. These investments options are referred to as the subaccount. The value of the investment will vary depending on the performance of the investments in the subaccount. There is usually a death benefit that will pay a beneficiary the greater of the account value or a guaranteed minimum amount, such as total purchase payments. Variable annuities are securities regulated by the Securities and Exchange Commission (SEC).
MUTUAL FUNDS
A mutual fund is an investment that pools money from many participants and invests in stocks, bonds, short-term money-market instruments, or some combination of the three. The combined holdings of stocks, bonds, or other assets that the fund owns are known as its portfolio. Each investor in the fund owns shares, which represent a part of these holdings. There are two kinds of mutual funds: loaded mutual funds and no-load mutual funds. A load is a commission the investor must pay in order to purchase/sell that fund. All mutual funds have operating costs. Mutual funds are securities regulated by the SEC but are not guaranteed or insured by the FDIC or any other government agency.
