- Employees of for profit companies can participate in 401(k) plans, while employees of tax-exempt organizations can participate in 403(b) plans.
- Employers are responsible for choosing the plan type and investment options.
- Both plans have contribution limits and may qualify for tax-deferment.
- Both plans have distribution restrictions and regular income taxes apply to withdrawals.
401(k) and 403(b) are both retirement savings plans that employers set up for employees. The two plans are similar in many ways with the one major difference being the type of company that sponsors the plan.
The Differences Between 401(k) and 403(b) Plans
The biggest difference between 401(k) and 403(b) plans is the eligibility requirements for participants. Employees of for profit organizations are able to contribute to 401(k) plans, while employees of tax-exempt organizations are permitted to save using a 403(b) plan. Employers are responsible for setting up retirement savings plans, and those that choose to offer company-sponsored plans select the most appropriate option based on their employee population. This simplifies the decision for workers, as they will be guided into the correct retirement plan by their employers.
Both 401(k) and 403(b) plans can choose investment managers to manage the retirement accounts of their employees. Nonprofit companies may also permit their 403(b) plans to be in the form of annuity contracts, which are managed by insurance companies. With this option, investors contribute to the annuity in exchange for guaranteed income upon retirement. 403(b) plans can also invest in retirement income accounts, which operate in a similar manner to annuities. Costs for 401(k) and 403(b) plans vary depending on the type of investment and the financial institution handling the investments.
401(k) and 403(b) Contributions and Withdrawals
Many of the contribution and withdrawal rules for 401(k) and 403(b) accounts are similar, and the annual contribution limits are typically the same for both. These limits are reviewed annually. Both types of retirement plans offer tax-deferred savings and earnings, which means no taxes are paid when contributions are made. Instead, taxes are paid on contributions and any related earnings when investors withdraw their funds. In some cases, companies may offer a Roth option, in which contributions are taxed but earnings and distributions are not.
The rules around withdrawals from 401(k) and 403(b) accounts are also similar, as distributions can only be taken under very limited circumstances until you reach the age of 59 ½. Withdrawals made before the age of 59 ½ may be subject to a 10% tax penalty, and all distributions (except those in a Roth-style plan) are subject to regular income tax. Note that both savings plans have required minimum distributions after the age of 70 ½.
|Eligibility||Employees of for profit companies||Employees of tax-exempt organizations|
|Employee Contribution Limit||$18,000||$18,000|
|Catch-Up Contribution Limit for Employees 50 and older||$6,000||$6,000|
|Maximum Combined Employee + Employer Contributions||100% of compensation or $53,000, whichever is less||100% of compensation or $53,000, whichever is less|
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