You’ve likely considered investing in your workplace retirement plan if you’re looking for ways to save money for retirement. Not all employers can offer the same types of retirement accounts, though. You may have access to a different option than your friends or family members depending on where you work.
Two standard workplace retirement plan options include 401(k)s and 403(b)s. Both of these tax-advantaged retirement accounts are named after their respective sections of the tax code that govern how they work. Although both plans are very similar overall, they do have some distinct differences.
If you’re considering job offers between companies that offer different types of workplace retirement plans or you’re trying to decide whether to contribute to your retirement plan (or your spouse’s), it’s important to understand how 401(k)s and 403(b)s work before deciding which is best.
What is a 403(b)?
A 403(b) retirement plan is technically considered a tax-sheltered annuity plan. These account types are available to certain employees of public schools, 501(c)(3) tax-exempt organizations, and ministers.
Initially, these plans were just for annuities, though today, you can typically invest in mutual funds within these accounts.
403(b)s allow employees to make contributions on a pre-tax basis, and any earnings are tax-deferred as well. When you withdraw the money from your 403(b) in retirement, you pay ordinary income taxes on the withdrawals.
You save on taxes upfront but still have to pay them later on when you retire.
Although employers are allowed to make matching contributions to 403(b) plans, many do not. Unfortunately, when an employer offers matching contributions with a 403(b) plan, the plan typically becomes subject to additional regulations outlined in the Employee Retirement Income Security Act (ERISA), passed in 1974. These regulations almost always increase administrative costs and add more headaches for the plan administrators.
When it comes to annual contribution limits, In 2021, you can contribute up to $19,500 to a 403(b) account. People age 50 or older can contribute an additional $6,500 for a total contribution of up to $26,000. Finally, if you’ve been with your employer for 15 years or more, you could potentially qualify to contribute up to an extra $3,000.
What is a 401(k)?
401(k) retirement plans are another popular employer-sponsored retirement plan. These plans allow employees to make pre-tax contributions to their accounts, and any earnings are tax-deferred. You get taxed on the money when you withdraw the funds in retirement, though.
Sound familiar? It should, because it works nearly the same as a 403(b) workplace plan.
Again, similar to 403(b) plans, 401(k) plans limit your annual contributions to $19,500 in 2021. You can make up to $6,500 in catch-up contributions above the $19,500 limit if you’re age 50 or older for a total contribution limit of $26,000.
One significant difference is that employers who offer 401(k)s often provide their employees matching contributions as an added employee benefit. This is not always the case, but it’s more common than with 403(b) plans.
You should take advantage of these matching contributions if they are available to you – it’s essentially free money!
What’s the Same Between a 403(b) and 401(k)?
1. Standard Contribution Limits
Both retirement savings plans have the same standard employee contribution limits. In 2021, you can contribute up to $19,500 of your salary with a 401(k) or 403(b).
2. Catch-up Contribution Limits
Employees aged 50 and older can take advantage of catch-up contributions for 401(k)s and 403(b)s to help build retirement savings more quickly. The catch-up contribution limit for both plans in 2021 is $6,500. Combined with the regular contributions, those ages 50 and older may contribute up to $26,000.
3. Tax Treatment of Contributions
Both retirement account types offer the same general tax benefits. You make contributions on a pre-tax basis (lowering your taxable income), earnings are tax-deferred, and you pay ordinary income taxes on withdrawals in retirement.
4. Early Withdrawal Penalties
Withdrawing money from a 401(k) or 403(b) before you reach age 59 1/2 can have consequences. In general, you can’t withdraw money from the account early without facing a 10% early withdrawal penalty, plus you’d have to pay taxes on the withdrawal. Additionally, both plans have identical required minimum distributions that start at age 70 1/2.
5. Roth Versions May Be Available
Both 403(b)s and 401(k)s may offer a Roth option if your employer provides it. A Roth 401(k) or 403(b) allows you to make contributions on an after-tax basis, so you don’t get a deduction for contributions.
However, money in the account grows tax-free and can be withdrawn from the account tax-free after age 59 1/2 as long as you meet certain requirements. Learn more about the differences between a Roth 401(k) vs Traditional 401(k).
What’s Different Between a 403(b) and 401(k)?
1. Additional 403(b) Contributions for Long-Term Employees
403(b) plans might allow certain employees to make an additional catch-up contribution if the plan permits it. To qualify, an employee must have at least 15 years of service with the employer. Eligible employees can make up to an additional $3,000 worth of contributions.
2. The Companies That Offer Each Plan
403(b) plans are only offered by public schools, non-profit 501(c)(3) organizations, and churches. For-profit employers typically establish 401(k) plans.
3. Likelihood of an Employer Match
Both types of plans can offer employer matches. 403(b) plans are less likely to provide matching contributions because it makes them subject to additional Internal Revenue Service (IRS) regulations, increasing paperwork and plan costs. For this reason, many employers that offer a 403(b) do not provide matching contributions.
4. Cost and Expense Ratios
Each 401(k) and 403(b) plan is different regarding its costs and various investment options. Every plan will offer mutual funds come with varying expense ratios, which are the costs of holding each investment within the plan. While this can be a difference between 401(k)s and 403(b)s, these costs and investment options can also vary between different types of 401(k)s and different types of 403(b)s, depending on the plan being offered.
401(k) vs 403(b) Frequently Asked Questions (FAQs)
Can a for-profit company offer a 403(b) plan?
No, 403(b) plans cannot be offered by for-profit companies. A 403(b) plan can only be offered by public schools, 501(c)(3) tax-exempt organizations (non-profit organizations), and churches.
If I have access to a 401(k) plan and a 403(b) plan, can I contribute the full amount allowed to both?
No. Although you can contribute to both a 401(k)s and 403(b)s, your total combined contribution across both plans needs to be equal to or less than the $19,500 maximum contribution limit.
Are employers required to offer matching contributions to 401(k) and 403(b) plans?
Although 401(k) and 403(b) plans may offer matching contributions to eligible employees, they do not have to do so. Matching contributions are rarer with 403(b) plans due to additional regulations employers must follow if they offer them.
Do I get to keep employer contributions when I leave my job?
Each 401(k) or 403(b) plan may work in slightly different ways. Some plans allow you to vest, or keep, employer contributions immediately. Other plans may have a vesting schedule that phases throughout several years.
For instance, you may get to keep 20% of the employer contributions after a year of service. Then, it might increase by 20% per year until you’re 100% vested. If you leave the company before you’re fully vested, you get to keep only the portion of employer contributions you’re currently vested in.
Tax-Advantaged Retirement Plans Summary: 403(b) vs 401(k)
If you’re interested in saving for retirement, you may have access to a 401(k) or 403(b) plan through your employer. The type of plan your company offers depends on which option your company qualifies for. Both plan types are relatively similar overall and provide similar tax benefits.
When retirement planning, it’s a good idea to compare each 401(k) or 403(b) plan you and your family may have access to based on the individual plan’s merits. If you have the option to choose, pick the option that makes the most financial sense for you. Otherwise, just get started with whichever one is available to you!
Don’t forget to compare workplace retirement plans with other investing options. The best investment apps may offer a traditional individual retirement account (IRA), Roth IRA, and a taxable brokerage account that might work better for you and your retirement savings plan.
Lance Cothern, CPA is a personal finance writer and founder of MoneyManifesto.com. Lance's work covering several personal finance topics has been published in U.S. News & World Report, Business Insider, Credit Karma, Investopedia, and several other publications.