In this article, we will discuss the main difference between 403(b) and 401(k) retirement accounts. We will cover the types of employers eligible to offer these accounts, available investment options, plan limits, tax benefits, distributions, and other factors to consider when choosing the right account for you. Before making any investment decisions, you should consult a financial advisor and tax professional to ensure you make the right choice based on your personal circumstances.
How Does a 401(k) Account Differ from a 403(b) Account?
Both 401(k) and 403(b) retirement accounts are popular among employees, but there are some key differences between them:
Type of Employer
A 401(k) account is primarily offered by for-profit companies, while a 403(b) account is utilized by non-profit organizations. Sometimes, both types may be offered by the same employer.
Investment Options
Investment options differ between 403(b) and 401(k) accounts. Most 401(k) plans provide various types of mutual funds as investment options, but other types of investments may also be included.
403(b) accounts can only offer mutual funds and annuities. Although 403(b) accounts are more restrictive in investment options compared to 401(k) accounts, if there is an option among mutual funds, a 403(b) account can be almost as flexible as a 401(k) account.
Plan Limits
Both 401(k) and 403(b) accounts allow employees to contribute up to $20,500 in 2022 ($22,500 in 2023). Additionally, if you are 50 years of age or older, you can make an annual “catch-up” contribution of $6,500 in 2022 ($7,500 in 2023).
For 403(b) accounts, a variation applies to a small group of employees – if the qualified 403(b) plan allows it and you have 15 years of service. You may be eligible to contribute an even higher amount to your 403(b) account above the annual limit. This option is not available with a 401(k) account.
Tax Benefits
Both 401(k) and 403(b) accounts provide pre-tax contributions, which means the contribution amounts reduce taxable income before taxes are deducted from your salary. For example, if you earn $60,000 and contribute $10,000, you will be taxed on $50,000 of income.
However, Roth 401(k) plans offer different tax benefits than 401(k) and 403(b) accounts. You do not receive any upfront tax benefit with a Roth 401(k). However, your distributions in retirement are tax-free.
Distributions
You cannot withdraw money from most 401(k) and 403(b) accounts until you reach age 59 and a half. If you make an early withdrawal, you will owe income taxes on the amount and a 10% penalty. To avoid the penalty, you must meet specific conditions set by the Internal Revenue Service (IRS).
You also must begin taking distributions based on the required minimum distribution amount by age 72 – known as Required Minimum Distributions (RMDs).
All employer-sponsored retirement plans must follow RMD rules, including 401(k) and 403(b) accounts.
Other Factors
There are other benefits for non-profit organizations that may make a 403(b) account more attractive, but the type of plan matters little to the majority of employees. If you have the option, there is not necessarily a better account than the other.
It is also important to consider investment options and associated fees of the plan. Typically, larger companies have lower fees since more people participate, driving down costs. You should also take into account that index funds usually have lower fees than actively managed funds, which cost more.
Conclusion
Accounts
401(k) and 403(b) are great retirement plans. If your employer matches your contributions, be sure to contribute enough to qualify for the employer match. Since the main difference is the types of investments available in each type of plan, it is helpful to familiarize yourself with the different investments so you can choose those that align with your goals.
A 401(k) account may offer more flexibility when choosing investments, while a 403(b) account may only offer mutual funds and annuities. However, there may be many mutual funds available, and annuities can provide additional steady income. Please consult a financial advisor and tax professional before considering investments and annuities.
Frequently Asked Questions
What does “tax-deferred” mean in a retirement plan?
“Tax-deferred” refers to any type of investment or plan that offers tax benefits, such as tax deferral or tax-free growth. Retirement plans are tax-deferred in order to encourage people to save for retirement.
What is the employer match for a 401(k) or 403(b) account?
“Employer match” in a retirement plan means the employer contributes a certain amount to your retirement plan based on how much you contribute. For example, if the employer offers a 9% match, and you contribute 9% of your salary, the matched amount will equal that. If you contribute 4%, they will contribute 4%; if you contribute 10%, they will contribute 9%. Usually, you must work for the company for a certain amount of time to become “vested” and retain the employer contributions if you leave your job.
Source: https://www.thebalancemoney.com/which-is-better-for-your-retirement-403b-vs-401k-4173038
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