What is the difference between 401(k) and 403(b) retirement plans?
Comparatively speaking, a 401(k) and a 403(b) retirement plan are very similar. The key difference is that a 403(b) is specially designed for non-profit and tax-exempt companies & their employees. Each plan type is named for the sections of the IRS code that explain their structure: 403(b) and 401(k), respectively.
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Who are 403(b) plans for?
Employees of tax-exempt educational organizations and nonprofit organizations under 501(c)(3).Typically this will include schools, churches and other nonprofit organizations. Whereas any employer can use a 401(k) plan, the 403(b) is exclusive to these types of organizations and comes with a few different rules and benefits.
Plan beneficiaries could include school administrators, K-12 faculty, government employees, high education faculty, librarians, ministers, priests and medical professionals.
Exemption from Nondiscrimination Testing and Administrative Procedures
Some 403(b) plans can avoid onerous testing and administrative procedures if they are non-ERISA (Employee Retirement Income Security Act) plans. A 403(b) that doesn’t get matching contributions does not need to meet the strict requirements of the ERISA. Non-ERISA 403(b)s are exempt from nondiscrimination testing.
Additionally, if the plan is non-ERISA a 5500 filing is not required. In other plans, these tests and procedures could add additional fees and complexity to a plan, so these 403(b)-specific exemptions are very valuable for plan sponsors.
Are there drawbacks to a 403(b) plan?
There are two primary drawbacks to a 403(b) plan. Early withdrawal penalties and limitations on fund choices.
The IRS imposes a 10% tax penalty on all funds withdrawn from a 403(b) before turning 59 ½. If the beneficiary is 55 or older under there are certain circumstances, such as being fired or becoming disabled, that could avoid this rule.
There are also some fund limitations on 403(b)s. Mutual funds and fixed or variable contracts are the primary types of investments that 403(b) plans permit. These can’t be invested in stocks, real estate investment trusts, or other securities. There are some exceptions to this.
Want to get a 401(k) or 403(b) plan started for your organization? Reach out to our team and we’ll get you started!
This information is provided as general guidance and may be affected by changes in law or regulation. It is not intended as accounting or legal advice. If you have questions please reach out to our team.
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