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Higher Ed Retirement Planning

403(b), 401(a), and 457 Plans: What's the Difference?

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Higher Ed employees often have many different retirement plan types to choose from. Which should you be using? Should you use more than one?

 403(b), 401(a), and 457 Plans: What’s the difference? Let's look at highlights of these plans and how you can optimize your use of them.

 403(b) Plans

 403(b) plans are the most popular of all higher ed retirement plans. These plans are for employees of public schools and tax-exempt organizations. If you work in higher ed, chances are, you have one. Chances are also pretty good that your provider is TIAA or Fidelity.

Institutions normally offer a “match” or a flat rate that they will contribute to the plan on your behalf. You’re ordinarily required to put in a percentage of your own pay, through salary deferral, to receive employer contributions. 

Highlights:

  •  The contribution limit for 2021 is $19,500 if under 50, $26,000 if over 50. 
  • Your employee contributions lower your taxable income dollar for dollar, when you choose pre-tax contributions. After-tax Roth contributions are also an option in some plans.
  • The growth of your investments in the plan is tax-deferred. The tax advantages can help you build wealth quickly.
  • Taxes aren’t paid until you take a distribution. If you use a qualified distribution, you will owe ordinary income tax. Qualified distributions occur after age 59 ½ but there are a few exceptions.
  • Most plans allow for loans. I don’t encourage using them, but if you exhaust all other options, it is available. For more: How do 403b Loans Work?

Pros:

  • Most universities/colleges offer generous employer contributions.
  • Contributions lower your taxable income for that year. (unless you opt for Roth contributions)
  • Employer matching doesn’t count toward the $19,500 employee limit.

Cons:

  •  Many plans have limited investment options.
  • Use TIAA? Did you know you may not be able to get access to some of your money right away when you retire? If you hold TIAA Traditional, you may want to ask them if there are any withdrawal restrictions.
  • The recommendations, service, and guidance from 403(b) vendors is inadequate. Many claim to offer financial planning. In my experience, this tends to be little more than plugging some numbers into a retirement calculator, it isn't comprehensive financial planning.

 

457 Plans

 457 plans are available to employees of state/local governmental agencies and certain tax-exempt organizations. Some employers offer only a 457 plan. For higher education, you typically only see 457 plans made available alongside 403(b) plans. 

 Highlights:

  •  Normally offered only to public school employees.
  • The contribution limit for 2021 is $19,500 if under 50, $26,000 if over 50.
  • Like 403(b)s, contributions can (when using pre-tax contributions) lower your taxable income and the growth of the plan is tax-advantaged as well.

Pros:

  •  HUGE: If a 403(b) and 457 is offered, you can max out BOTH.
  • ALSO HUGE: If you separate service, there is NO premature withdrawal penalty. If you want to retire in your early to mid 50’s, this can be a game-changer.

Cons:

  •  While premature withdrawal penalties don’t apply after separating service, required minimum distributions do apply.
  • Not as common as 403(b) plans.


401(a) Plans

401(a) plans are the least popular of the three. 401(a)s are only offered by government institutions, or in higher ed — public schools. These plans are rarely the core offering. They are a supplemental plan to help you save.

 Highlights:

  •  The employer can decide who is eligible to use the plan.
  • These plans often have mandatory employee contributions.
  • The contribution limit in 2021 is $58,000 (employee + employer)
  • Often, these plans only allow employer contributions.

Pros:

  •  As a supplemental plan, it can allow for more tax-advantaged investing, in addition to other plans. The more the merrier!
  • I’ll place this in both Pros and Cons, contributions are sometimes mandatory. 

Cons:

  •  These plans are not frequently offered.
  • I’ll place this in both Pros and Cons, contributions are sometimes mandatory. While I don’t like being told what to do, many employees wouldn’t invest at all if it wasn’t mandatory.

 

Conclusion: 403(b), 401(a), and 457 Plans: What’s the Difference?

There you have it. I hope this article helps you remove the guesswork when it comes to the different retirement plans offered in higher education. Optimizing the use of these plans is a key component if you want to live your best financial life.