In this busy world, where leaders and executives are busy building their careers, making a difference, and chasing dreams, “retirement savings” might land somewhere at the bottom of the to-do list—right next to “clean out the attic” or “finally learn how to fold fitted sheets.” We get it! But retirement can sneak up faster than anyone thinks. Thus, setting the stage for financial freedom later in life starts with taking action now. And for those in education, healthcare, or non-profits sectors, a 403(b) retirement plan might just be a not-so-secret weapon for security in the golden years.
Curious what a 403(b) is, how it works, and why it matters? Let’s break it down!
The basics of a 403(b) plan
To put it simply, a 403(b) plan is like its more famous cousin, the 401(k), but with a nonprofit twist. With 403(b)s, you’ll typically see two types of contributions:
- Employee Contributions: Pre-tax or Roth contributions directly from employee paychecks.
- Employer Contributions (optional): Employers can throw in matching dollars or profit-sharing amounts. Hello, happy employees!
The money grows tax-deferred (or tax-free for Roth), employees usually have diverse investment options (think mutual funds, annuities, or target-date funds), and just like a 401(k), there are limits to how much they can stash each year.
Here’s another fun fact to name-drop at your next staff meeting—the 403(b) nickname comes from its section of the Internal Revenue Code. Yep, that’s where the magic happens.
Who is eligible to sponsor a 403(b)?
Not every business can establish a 403(b). These plans are reserved for:
- Public schools (from elementary teachers to university professors)
- 501(c)(3) nonprofits (think charities, health services, private schools, and foundations)
- Hospitals and healthcare organizations
- Religious institutions, including churches, synagogues, mosques, and temples
403(b) plans vs. 401(k) plans
As mentioned above, 403(b) plans are dedicated to the “not-for-profit” sector. These are primarily 501(c)(3) organizations, covering workers in hospitals and private schools. Today, the rules for these plans are similar to those established for 401(k) plans, with a few exceptions, below.
- Universal availability: In a 403(b) plan, all employees, with limited exception, must be permitted to make elective deferral contributions to the plan.
- Eligibility: Once an employee is hired, they must be permitted to make salary deferrals to the plan without satisfying an age or service condition.
- ADP testing: 403(b) plans are not subject to ADP testing, so all employees can defer up to the annual limit without impacting other employees. ACP testing will apply if the plan has a matching contribution, unless it satisfies an ACP testing safe harbor.
- Top-heavy rules: Top-heavy testing is not required of 403(b) plans.
- Investment options: 403(b) plans offer investments either in annuity contracts or custodial accounts (mutual funds). Employees cannot be given the option to use self-directed brokerage accounts or invest in real estate or life insurance.
ERISA vs. non-ERISA 403(b) plans
Historically, a deferral-only 403(b) plan was established to be exempt from ERISA. This means certain requirements wouldn’t apply to the plan, like filing a Form 5500. However, to be exempt from ERISA, the plan must also have very limited employer involvement and cannot provide employer contributions. With changes to the 403(b) landscape over the years, this rule is getting harder to satisfy. Therefore, more and more 403(b) plans are ERISA 403(b) plans.
Most churches, qualified church-controlled organizations, and governmental entities (like public schools) can adopt non-ERISA 403(b) plans without the same requirements.
The big takeaway
A 403(b) plan is an excellent recommendation for executives of tax-exempt organizations, such as schools, hospitals, or other non-profits, looking to help their employees save for retirement. If they want a cost-effective way to attract and retain talent while providing employees with valuable tax-advantaged savings, a 403(b) plan is worth considering.
At EGPS, we’re here to help. We love explaining the ins and outs of these plans; we also work to understand an organization’s goals, budget, and employee demographics to create a customized plan designed to set them up for a successful future.
Interested in more information on 403(b) plans? Fill out the form and we’ll reach out with additional resources and answer any questions you may have.
