What are the characteristics of 403b retirement plans?


If you are an employee of the public school system, you will, in all probability, be offered to participate in a Section 403b plan.

Just like 401k, this arrangement is sponsored by the employer and it allows you to defer certain amounts of your wages (subject to restrictions) on a tax-deferred basis. Under a 403b plan, the money withheld by the employer is used to purchase an annuity.

How a 403b Plan Works

  • The funds invested under a 403 b plan are not taxable at the time of deferral. Instead, they accumulate on a tax-deferred basis and become taxable when distributed.
  • Distributions are mandatory: they have to start at any time when the employee leaves the job, when the plan is terminated or upon the employee's retirement, but no later than April, 1 of the year after the participant has reached age 70.5.
  • A 10 percent penalty is imposed on any premature distribution of funds from a 403b plan, on top of the income tax due on the withdrawn amount. This penalty is not applicable to distributions made after the participant has reached age 59 ½.
  • There is a required minimum distributions (RMD) amount that is fixed and set by regulation. If an individual fails to make the necessary RMD, a 50 percent tax is imposed on the undistributed amount.
  • There is a limit that the IRS imposes on the amounts participants can defer and contribute to their 403b plans. For the year 2009, the maximum amount of compensation that people under 50 can contribute to their 403bs, is $16,500. People over 50 are allowed an extra catch-up amount of $5,500 in addition to the regular deferral contribution amount.

A 401k or a 403b?

A 403b plan is in fact very similar to a 401k plan. If you employer offers both, you will need to choose between the two. The main difference between a 401k and a 403b is in the investment options. While 401k plans offer a whole variety of investments, 403b investments are restricted to annuities and mutual funds.

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