What Is a 403B?
A 403B is the Internal Revenue Service tax code used to describe a Tax Sheltered Annuity (TSA) plan. The TSA is frequently called a "403B" plan, which nonprofits establish for their employees. These are employee contribution plans, which the IRS regulates.
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Elective Contributions
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Not every employee is automatically eligible. The employer might require a minimum number of service years along with a minimum age requirement for eligibility in the 403B plan. Once an employee meets eligibility requirements, he completes an enrollment form requesting a percentage of each paycheck put into the plan. The 2011 maximum employee contribution is $16,500, unless the employee is 50 years or older. Then $22,000 is the limit. Employees can contribute up to 100 percent of earned income up to the limit. The contributions reduce annual income, thus lower the immediate tax burden to the employee.
Employer Contributions
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There are two methods employers contribute to 403B plans on behalf of employees. The first is through matching employee contributions up to 6 percent of the employee's income. For example, an employee making $100,000 and contributing 10 percent would have an additional $6,000 matched by the employer under matching provisions. The second are nonelective contributions made by employers to all eligible employee accounts regardless of whether the employees are making elective salary reductions or not. Employer contributions, combined with employee contributions may not exceed $49,000 annually.
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Tax-Deferral
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Contributions into the 403B plan are tax-deferred funds, meaning contributions reduce income subject to income tax. Keep the 403B assets in the retirement plan and don't worry about the taxes until the money comes out. This is powerful considering the mutual fund investment options potentially have considerable annual gains. Ten percent growth on a tax-deferred account is 10 percent, however, a regular brokerage account might pay as much as 25 percent in capital gains taxes on earnings, reducing the return to 7.5 percent after taxes. Only when you take distribution would you see a taxable event with the 403B plan. At the point of distribution, only what you take out is added to your annual income with the rest continuing to grow tax-deferred. Age 59 1/2 is the normal distribution age for 403B plans. Distributions before this age have a 10 percent penalty added to what is taken out.
Special Early Distribution Rule
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While the 403B plan works similarly to other retirement savings plans such as a 401k, it maintains special provisions for its participants. One provision allows distributions at age 55. The employee must be employed with the company through age 50 and keep the assets in the 403B instead of rolling it over into a self-directed IRA. A self-directed IRA allows more control and investment options but does not allow early, penalty free-distributions with the same flexibility of the 403B. No special early distribution waivers are required for distributions from the 403B at age 50. Lump-sum or periodic distributions are allowed.
Increased Contributions
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Another special provision is the ability to increase annual contributions after 15 years of service. The 15-Year Rule allows you to either increase annual contributions by $3,000 per year or use a formula to increase the contribution limit based on previous year increases and the number of years of service above 15 years. Your plan provider can work the numbers out to give you the best scenario for your situation.
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