Understanding 403(b) Plans
Let’s first review what a 403(b) plan is, including its features, benefits, and restrictions.
What is a 403(b)?
A 403(b) plan is a type of retirement savings plan offered to employees of non-profit organizations, schools, and certain governmental organizations. A 403(b) can be thought of as a 401(k) for those workers under a different type of employer sponsorship.
In short, a 403(b) is similar to a 401(k) but is specifically designed for non-profit organizations. These accounts are not FDIC-insured, like most bank accounts.
Features of a 403(b) plan
Some of the key features of a 403(b) plan include:
- Tax-deferred contributions
- Employer matching contributions (up to a specified percentage of salary)
- Various investment options (usually mutual funds)
- A maximum employee contribution limit of $22,500, as of tax year 2023
Benefits of contributing to a 403(b) plan
Some of the benefits of contributing to a 403(b) are similar to those of a 401(k). When you make a contribution, you’ll reduce your taxable income in the current year, build tax-deferred savings, and accelerate your retirement saving timeline. Roth accounts, or Roth 403(b)s, if available, work in the opposite fashion.
Some non-profit employers, like their corporate counterparts, may offer matching contributions that can help boost employee retirement savings account balances. Plan participants, whether they’re working with a 401(k) or 403(b), tend to really value employer-matching contributions.
Restrictions of a 403(b) plan
Like a 401(k), taking money out of your tax-deferred (or pre-tax) 403(b) plan will lead to ordinary income tax as well as early withdrawal penalties if you’re not yet 59.5 or older.
When you reach age 73, you’ll also have to manage Required Minimum Distributions (RMDs).
Finally, you’ll also have access to only a relatively limited set of investment options, at least when compared to those available inside an IRA.
Contributions to a 403(b) plan must be made through payroll deductions, and, like a 401(k), there are limits to how much an employee can contribute.
IRA Rollovers
Now, we’ll walk through a brief primer on IRA rollovers: what they are, the types of IRA rollovers you might encounter, the benefits associated with them, and what a normal IRA rollover process looks like.
What are IRA rollovers?
An IRA rollover is the process of moving funds from one retirement account, like a 403(b), to an IRA. Fortunately, an IRA rollover done correctly shouldn’t lead to any penalties or taxes.
This means a pre-tax 403(b) should be rolled into a pre-tax, traditional IRA, and a Roth 403(b) (if you have one) should be rolled into an after-tax Roth IRA. Both account types have their own tax advantages. SIMPLE IRAs don’t figure into this discussion.
IRA rollovers can be used to consolidate retirement accounts, access more investment options, or simply change plan administrators.
Types of IRA rollovers
There are two main types of IRA rollovers: direct rollovers and indirect rollovers.
A direct rollover involves transferring funds directly from one retirement account to another, while an indirect rollover involves withdrawing funds from one account and depositing them into another tax-advantaged account within 60 days.
Direct transfers tend to be administratively easier, while indirect rollovers introduce more risk to the process and are generally not recommended unless absolutely necessary.
Benefits of IRA rollovers
There are a number of benefits to IRA rollovers, such as access to more investment options, the potential for cost savings in the form of fees, and greater control over your retirement savings.
Some workplace plans may only permit rollovers after you’ve left your previous employer, but in a limited number of circumstances, you might be able to roll over your 403(b) while you’re still employed.
Nonetheless, an IRA rollover done right should be both tax-free and penalty-free.
Process of IRA rollovers
If you decide to move forward with a rollover, you’ll need to select a new provider for custody of your account, initiate the rollover, and complete any necessary paperwork from either your former employer or the receiving financial institution.
It’s important to carefully review your new IRA account provider’s terms and conditions, as well as any account fees that may apply. Also, remember that rollovers to an IRA are not considered IRA contributions, so you won’t have to worry about the annual limits here.
Rollover Rules for 403(b) Plans
When it comes to performing a rollover while you’re still employed (also known as an “in-service rollover”), you’ll need to follow the rules and restrictions set forth in your employer’s 403(b) summary plan document.
Let’s walk through the rules for in-service rollovers, their restrictions, and any potential taxes or penalties you may run into.
In-Service Rollover rules
An in-service rollover is the process of rolling over funds from an active 403(b) plan to an IRA while you’re still employed. It’s usually easier to roll over a 403(b) you have at an old employer, but in certain cases, you may be able to roll over an active 403(b) plan.
The rules for in-service rollovers vary depending on your specific plan and your employer. You may never be allowed to perform an in-service rollover, or you might be able to once you’ve reached a certain age or met other terms and conditions.
Your mileage definitely varies here, so be sure to check your employer’s 403(b) summary plan document to learn more.
Restrictions for In-Service Rollovers
If your plan allows for in-service rollovers, there are restrictions that may apply. There may be limits on the amount that can be rolled over (i.e., you can only roll over vested money) and restrictions on certain types of contributions (i.e., you can only roll over money that you contributed yourself).
Some plans may require the employee to first take a distribution of a certain amount — or percentage of the account balance — before an in-service rollover can be initiated.
Taxes on 403(b) In-Service Rollovers
In-service rollovers from a 403(b) plan to an IRA of the same tax status are generally non-taxable events, but there are cases that may result in income taxes due — along with potential early withdrawal penalties.
A direct rollover of your tax-deferred 403(b) plan to a traditional IRA can avoid any immediate tax bill and/or tax penalties, for example.
Advantages of Rolling Over a 403b to an IRA
The advantages of rolling over a 403(b) plan to an IRA are many. These include greater investment choices, more control, and the opportunity to consolidate your retirement accounts.
Greater Investment Choices
403(b) plans are typically limited to a small number of investment options, usually consisting of mutual funds. IRAs offer a much broader range of investment choices including ETFs, single stocks, bonds, and in certain cases, even precious metals, real estate, and cryptocurrency.
Control
Rolling over a 403(b) plan to an IRA can provide greater control over retirement savings, including the ability to change investment providers, as well as greater access to account information.
With an IRA you can manage retirement savings in a way that aligns with your individual goals and priorities.
Retirement Account Consolidation
Rolling over a 403(b) plan to an IRA can simplify your retirement savings, as it’s a way to by consolidate multiple retirement accounts into one. This tends to make things administratively easier.
Consolidating accounts can simplify account management, potentially reduce administrative fees, and save a ton of time. Having multiple providers can be confusing and logistically difficult if you aren’t super attentive to all your accounts.
Disadvantages of Rolling Over a 403(b) to an IRA
There are also disadvantages of rolling over a 403(b) plan to an IRA, including potential tax charges and/or early withdrawal penalties, a potential loss of benefits, and less ready access to your retirement funds.
Potential Penalties
If you elect an indirect rollover, wherein you receive your 403(b) funds directly, a failure to redeposit your retirement savings in a tax-advantaged retirement account can result in tax consequences and early withdrawal penalties on the withdrawn funds.
Make sure to have a new account ready at a brokerage of your choice, regardless of the type of rollover you elect.
Loss of Benefits
Rolling over a 403(b) plan to an IRA may result in the loss of certain benefits, such as employer contributions or matching contributions. If your employer provides matching contributions, you might want to stick with the 403(b) plan as long as they’re willing to offer them.
Some 403(b) plans may offer lower fees or other benefits that may not be available in an IRA, so be sure to check with your employer (as well as a qualified financial advisor) before moving funds around.
Limited Access to Funds
Unlike 403(b) plans, IRAs don’t offer loan provisions, which may be valuable to some retirement savers.
Factors to Consider Before Rolling Over a 403(b) to an IRA
Make sure you’ve thought about the key factors before you roll over your 403(b) plan to an IRA.
Future Job Opportunities
Your new employer’s plan may offer better benefits or investment options in their 403(b) plan than what you might find in an IRA. As an example, a new employer might have a low-cost, up-to-date 403(b) plan that you can use to merge your old 403(b).
Consider that a future job opportunity could enhance your retirement planning strategy, so be patient about this process even though it might feel difficult at the time.
Total Financial Situation
Your complete financial picture is an important factor to consider when deciding whether to roll over a 403(b) plan to an IRA.
Rolling over a 403(b) plan to an IRA may result in potential early withdrawal penalties or loss of current benefits, which should be taken in the context of your total financial circumstances.
Retirement Goals
Different retirement goals may require different investment strategies, and the available investment options will certainly vary when you compare your 403(b) to an outside IRA.
It’s critically important to evaluate your retirement goals and the related investment strategy to achieve those goals. That will help to make your decision easier — especially if you aren’t satisfied with your current employer’s 403(b) plan offering.
Need Help Managing A Rollover While You’re Still Employed?
Capitalize can be your trusted partner for managing your 403(b) rollover — even if you’re still employed.
As with most personal finance decisions, there are clear benefits of working with a partner to manage the process. Capitalize can manage the entire process of your 403(b) rollover, as we’ve helped thousands of retirement savers from across the country get their account transfers in order.
