WHY DO I NEED TO CONTRIBUTE TO A 403(B)?
403(b)'s build wealth for retirement and contributions may have a significant impact on your annual tax situation - potentially helping you save on taxes!
YOUR PENSION IS NOT ENOUGH. IT IS UP TO YOU TO MAKE UP THE SHORTFALL BY INVESTING IN YOUR 403(B), 457, AND ROTH IRA.
WHAT IS A 403(B) TAX-SHELTERED ANNUITY?
403(b) is one of the tax-deferred retirement plans available to employees of various non-profit organizations and educational institutions. Individuals contribute to annuity contracts with mutual funds with mutual fund companies or insurance companies. Until at the time of withdrawal (assumed to be retirement) investment earnings and contributions grow tax-deferred. At the time of withdrawal, these funds are taxed as ordinary income. If you withdraw before age 59 1/2 years, withdrawals are subjected to an additional 10 % federal income tax penalty.
The federal government established 403(b) in 1958 to encourage employees in certain tax-exempt organizations to develop retirement savings programs. The name refers to the relevant section in Internal Revenue Code. Refer to IRS Publication 571 for exact internal revenue service wording. This document can be obtained by calling 1-800-829-3676 or by clicking here
WHY CONTRIBUTE TO A 403(B)?
Lower Taxes- Your tax bill can be reduced extensively as 403(b) contributions are made on a pre-tax basis. Usually, you have reduced your federal income taxes by $28 if you contribute $100 a month to a 403b plan (assuming you are in the 28% tax bracket). In effect, 100$ contribution will only cost $72. As your 403b contribution increases, the tax savings are magnified.
Supplement Retirement Income - Most of the non-profit organizations and educational institutions are offered a pension on retirement. An amount equal to salaries is only offered by a few pension plans. 403(b) plan can be helpful in reducing that gap.
More tax savings - Almost all interests, dividends, and capital gains add up to 403b account on a tax-deferred basis. That means until the time of withdrawal comes, your earnings will increase without taxes. After withdrawal, they are taxed as ordinary income. Before age 59 ½ withdrawals are subjected to a 10% federal income tax penalty.
HOW DOES A 403(B) PLAN WORK?
The individuals can contribute to 403 (b) plans, employer, or both depending on the type of plan you have. You have the ability to defer all or part of your income to your 403(b) account, or you can opt to receive cash payments from your employer right away.
If your employer makes contributions to your 403(b) account, the amount can be either a fixed percentage of your wages. The employers can match a percentage of your contribution or the whole amount can be up to your employer. Employers can contribute to your account for up to 5 years post-employment in 403(b) plans.
WHO CAN PARTICIPATE?
Universal Availability rule states that If an employee is eligible for elective deferrals, all employees can do so. Various groups can be opt-out from this rule including part-time employees, who are eligible under different types of plans (e.g. 401(k)), or those employees who haven’t been there very long.
If your employer automatically enrolled you in the 403(b) plan, make sure to examine your portfolio thoroughly. Your deferral percentage can be calculated automatically by some plans. You have to make sure that your contributions are suitable for your scenario.
CAN I ALSO CONTRIBUTE TO AN IRA?
Absolutely, Deductible contributions to an IRA will mainly depend on your filing status and your income. An annual contribution of $6,000 can be contributed to tradition or Roth IRA, If you are 50 years or older this contribution may sum up to $7,000.
INCOME TAX CONSIDERATIONS
Pre-tax 403(b) contributions done means you don’t pay current income taxes on that amount, which means more take-hoe pay than contribution after tax on the same amount. When you receive a distribution from the plan, your investment earnings and your contributions are fully taxable.
Contrary to this, after-tax Roth 403(b) contributions are subject to income taxes upfront but they totally tax-free when you receive a distribution from the plan availed.
Distribution made from your 403(b) plan is considered qualified only if it's made after the 5 years waiting period. Payment is made after you turn 59 ½ years, die or become disabled.
If your distribution is non-qualified, then you have the advantage of receiving a pro-rata portion of your tax-free Roth contributions and your earnings that are taxable.
Your employer’s contributions are always processed on a pre-tax basis even if they suit your Roth contributions. When you receive a distribution from the plan, your employer’s contributions and investments earnings on those contributions are taxable.
Before you turn 59 ½ (55 in various cases), if you got a payment from your 403(b) account, the taxable part may also be subjected to a 10% early distribution penalty unless an exception applies.
WHEN CAN I ACCESS MY MONEY?
According to the 403(b) plan, the money stays in account until you reach 59 ½ years age, no longer work for the employer from which the elective deferrals came from, or become disabled. Sometimes you can withdraw early if you had immediate hardship or need. This should be the last resort and is depended on plans. The amount being withdrawn will be charged with income tax and potentially a 10% penalty tax. Your plan can let you access your money at any time.
The same restriction applies to the number of contributions made by your employee to custodial accounts but can be more lenient. These specific rules can be asked from your plan representative or advisor.
WHAT HAPPENS WHEN I TERMINATE EMPLOYMENT?
What happens when you terminate employment mainly depends on your vesting schedule. You officially own the contribution that your employer makes. In some scenarios, your plans may require up to 6 years of employment before your main contributions are considered vested. This is not always the case as some plans have schedules. About terminating your employment, your options are as follow:
Transfer your money into a new 403(b) account
Keep your money into a new 403(b) account
Leave your money in your 403(b) account
Rollover your contributions into another employer's retirement plan.
Take a cash distribution
WHAT ELSE DO I NEED TO KNOW?
If you are not satisfied with your plan vendor and their investment offerings, there is a way of transferring assets from one contract to another only if you are still employed with the same employer. Your employer should offer 403(b) plans from multiple vendors.
Your account is protected from creditors under federal law in event of bankruptcy. Your account may also be protected from creditors under The Employee Retirement Income Security Act (ERISA).
After you terminate employment later or at age of 72 years, you must start to take the amount from your account.