Planning for retirement is essential. After you stop working, you need to know that you will be financially secure.
You are probably familiar with 401(k) investment plans. A 403(b) functions similarly to a 401(k). For instance, both retirement plans involve you making certain contributions of your income and, often, choosing investment options. In many cases, your employer will match your contributions up to a certain percentage. Both retirement plans also have Roth options and similar limits, and allow catch-up contributions. Additionally, you must reach the age of 59.5 before making a withdrawal from your account without incurring a penalty.
So, what's the difference?
The major difference between the two investment accounts is the type of employers involved. Private, for-profit companies sponsor 401(k) plans, while certain non-profit organizations (tax-exempt organizations), including public schools and some religious institutions, sponsor 403(b) plans. Employees of institution cannot choose the type of plan in which they invest.
403(b) plan accounts fall under one of three categories:
• 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
Why is the plan called 403(b)?
403(b) plans are called so because they appear in the Internal Revenue Code, or tax code, under section 403(b). They're sometimes known as TSAs (tax-sheltered annuities), because previously, participants were only allowed to invest in annuities. That changed in 1974, though; now, participants have more investment options, including mutual funds.
Should I have a 403(b)?
Yes! Having a retirement account is an important step in planning for your future and making sure you're financially secure after you retire. Plus, your company may make employer contributions, matching up to a certain percentage of your contribution, so it's basically free money.
With some exceptions, your contributions are not taxed. One exception is a Roth 403(b); in that case, your contributions are taxed, but your distributions are not. You'll also need to pay Social Security and Medicare taxes on your contributions. However, your employer may allow you to make regular, pre-tax contributions and after-tax contributions. You must make sure you don't put in more than the IRS allows, though.
You won't pay taxes on the money you earn as your investments grow until you make a withdrawal. That means it will grow more quickly than your taxable income.
How much should I contribute to my retirement account?
That depends. Your plan probably has contribution limits. Many people choose to work up to 15% of their income to retirement savings, splitting it between a 403(b) (or 401(k) if that's the plan their employer offers) and an IRA. You should contribute up to the matching limit of your employer contributions. Once you've met that match, make up to the contribution limits with IRA contributions. With an IRA, you're more able to control the distribution of your investments.
Work up to the 15% by increasing your contributions whenever you get a raise. If you have debts you need to pay off, start investing once you've done so.
What if I change jobs?
Depending on your employer's plan and the third-party administrator, you will probably need to rollover your 403(b) into an IRA. Choosing a Roth IRA is probably your best bet; while your contributions are taxed, your distributions won't be. In other cases, your employer may not require you rollover your money, and you will be able to keep your money in the current account as long as you keep a minimum amount of money in the account.