Both 401(k) and 403(b) are employer-sponsored retirement plans that allow you to contribute pretax dollars to your retirement savings. They are both named after sections 401(k) and 403(b) of the tax code. A 403(b) is commonly referred to as the cousin to a 401(k). While these two types of plans are similar in many ways, there are some important differences to be aware of. Let’s discuss 401(k) vs 403(b) below.
What is a 401(k) plan?
A 401(k) plan is an employer-sponsored retirement savings plan where employees can make tax-deferred contributions from their salary. Employers can offer a 401(k) as part of their benefits package and may match a portion of the employee’s contribution. By contributing to a 401(k) plan, individuals can reduce their taxable income.
What is a 403(b) plan?
A 403(b) plan is a retirement savings plan for employees of nonprofits, public schools, tax-exempt organizations, and certain ministers. It is also another name for a tax-sheltered annuity plan. An employee may contribute a portion of his or her salary into a tax-advantaged account, and an employer may match a percentage of that contribution. You can invest in either annuities or mutual funds.
What are the similarities between 401(k) and 403(b) plans?
- Tax-advantaged accounts: Both 401(k) and 403(b) plans are typically tax-deferred. You can contribute your pretax dollars which can decrease your taxable income and therefore may decrease your tax bill. Your money will grow tax-deferred until you are ready to withdraw it. When you withdraw the money then you will pay ordinary income taxes on the withdrawals. Some 401(k) and 403(b) plans allow for Roth or post-tax dollar contributions, and these can grow tax-free.
- Withdrawal rules: Both 401(k) plans and 403(b) plans allow participants to begin withdrawing regularly from their plan accounts after 59 ½. If you do withdraw early then you may need to pay a 10% penalty, as well as state and federal income taxes.
- Required Minimum Distribution: You must begin to withdraw from these accounts at age 72. The required minimum distribution (RMD) age for both 401(k) and 403(b) plans is 72. Roth 401(k) and Roth 403(b) accounts are exempt from RMDs starting in 2024.
- Contribution limits: Both 401(k) and 403(b) plans have the same annual contribution limits. The 2024 contribution amount for 401(k)s and 403(b)s is $23,000, or $30,500 if you are aged 50 or older. Your contribution amount cannot exceed your total income.
How are 401(k) and 403(b) plans different?
While these plans are quite similar, there are some differences that you need to be aware of.
- The type of employer: The main difference is the type of employer that offers them. 401(k)s are offered by for-profit companies. Nonprofits, churches, and certain government agencies such as public schools and universities offer 403(b)s. If you’re the business owner and the only employee, you can set up a solo 401(k) for yourself and your spouse. There are no solo options for 403(b) plans.
- Investment choice: 401(k)s generally offer a mix of stock and bond mutual funds. Your company may also offer company stock. Assets in a 403(b) are generally annuities and mutual funds.
- Catch-Up contribution limits: 401(k) and 403(b) plans both have an annual catch-up contribution limit of $7,500 if you are aged 50 and older. However, some 403(b) plans allow an additional contribution of $3,000 per year if an employee has worked for that organization for at least 15 years. This option is not available with a 401(k).
- Higher fees: 403(b)s generally charge higher fees than 401(k)s. Costs do vary from plan to plan so make sure you look to see what fees they charge.
- Employer match: While both plans do allow for employer matching, fewer employers offer matches with their 403(b). This is because when they offer 403(b) matching, they must comply with ERISA.
Comparison of 401(k) vs 403(b)
|What is it?||An employer-sponsored retirement savings plan for non-profit entities||An employer-sponsored retirement savings plan for any business entity, including non-profits|
|Eligible employer||Educational organizations and nonprofit organizations under 501(c)(3) of the IRC||Any employer|
|Investment options||Annuities and mutual funds||Any investment available under the plan|
|Tax Treatment||Contributions are made either pre-tax and grow tax-deferred, or after-tax and grow tax-free||Contributions are made either pre-tax and grow tax-deferred, or after-tax and grow tax-free|
|Contribution Limits 2024||Employees can contribute up to $23,000 for 2024 (or $30,500 if aged 50 and older). An employee of a “qualified organization” with 15 years of service may be eligible to contribute an additional $3,000 per year. ||Employees can contribute up to $23,000 for 2024 (or $30,500 if aged 50 and older).|
|Deductions and deferrals||Employer contributions are tax-deferred for employees. Employee contributions can be pre-tax or after-tax||Employer contributions are deductible to the employer. Employee contributions can be pre-tax or after-tax|
|Subject to ERISA||Yes if considered an “employee benefit plan.” Employers sometimes don’t provide employer contributions to the plan to remain exempt from ERISA||Yes|
|Form 5500 annual reporting||If a non-ERISA plan, then a Form 5500 is not required. If an ERISA plan, then a form 5500 is required||Required|
What are the contribution limits for 403(b) and 401(k) plans?
The 2024 contribution limit for both 403(b) and 401(k) plans is $23,000, or $30,500 if you are aged 50 and older.
How do catch-up contributions work with a 401(k) vs 403(b) Plan?
401(k) or 403(b) plan participants age 50 and older can make additional catch-up contributions of $7,500 in 2024.
A 403(b) plan also allows employees who have worked for the same employer for at least 15 years to make an additional contribution equal to the lesser of:
– $15,000, reduced by the amount of additional elective deferrals made in prior years because of this rule, or
– $5,000 times the number of the employee’s years of service for the organization, minus the total elective deferrals made for earlier years.
Is a 403(b) better than a 401(k)?
Both are solid retirement savings vehicles that offer tax advantages and investment options. One is not necessarily better than the other. The type of retirement plan that you are eligible for is dependent on your employer, so you don’t generally get to choose between a 403(b) or a 401(k).
Can I have both a 403(b) and a 401(k)?
While it is rare for employers to offer both a 403(b) and a 401(k), it is possible. If this is the case, then you can contribute to both. However, you would still be subject to the $23,000 contribution limit combined between the two accounts.
Should I choose a 403(b) or a 401(k)?
It’s not up to you to decide whether you should choose a 403(b) or 401(k). Unless you are a business owner, the employer will determine what plan they will offer you. You will most likely have access to a 401(k) if you work for a for-profit business. However, if you work for a school, religious organization, government, or hospital then you will probably have access to a 403(b).
Can I move funds from a 403(b) to a 401(k)?
In some circumstances, it is possible to move funds from a 403(b) to a 401(k) plan. This process is called a rollover.
If you are no longer employed by the organization that sponsors your 403(b) then you can typically roll the funds to a 401(k) as long as the new 401(k) plan accepts rollovers. This is a great option if you want to consolidate your accounts.
If you are still employed by the organization that sponsors your 403(b) plan then you may not be able to complete a rollover until you leave that employer.
It’s best to consult your financial advisor before making any changes to your retirement savings accounts.
Start saving for retirement today!
401(k) and 403(b) plans are similar and the decision will typically come down to what is offered by your company. The important thing is to take advantage of your employer’s retirement plan and start saving for retirement today. It’s a simple, effortless way to save for retirement.
If you want help with your finances and are interested in having a comprehensive financial plan for your family, feel free to schedule a discovery call with one of our financial advisors today!
Alvin Carlos, CFP®, CFA is an investment advisor and fee-only financial planner, in Washington, D.C that works with clients across the country. He has a Master’s degree in International Relations from SAIS-Johns Hopkins. Alvin is a partner of District Capital, a financial planning firm designed to help professionals in their 30s and 40s achieve their financial goals through smart investing, reducing taxes, retirement planning, and maximizing their money. Schedule a free discovery call to learn how we can help elevate your finances.