403(b) Plan

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403(b) Plan (Tax‑Sheltered Annuity)

What is a 403(b)?

A 403(b) plan, also called a Tax‑Sheltered Annuity (TSA), is a workplace retirement savings plan offered to employees of public schools, certain government agencies, and qualifying tax‑exempt nonprofit organizations. Eligible participants typically include teachers, school administrators, professors, nurses, librarians, government employees, and clergy.

Key takeaways

  • Operates like a 401(k): payroll deductions, employer match possible, and tax-advantaged treatment.
  • Two main types: traditional (pre‑tax) and Roth (after‑tax).
  • Investment choices are often more limited and commonly include annuities and mutual funds.
  • Early withdrawals generally incur income tax plus a 10% penalty unless an exception applies.
  • Employers eligible to establish 403(b) plans are public educational institutions and 501(c)(3) organizations.

How it works

  • Contributions are made through payroll deductions.
  • Traditional 403(b): contributions are pre‑tax and grow tax‑deferred; taxes are paid on distributions.
  • Roth 403(b): contributions are after‑tax; qualified withdrawals (contributions and earnings) are tax‑free.
  • Many plans allow employer contributions or matching.
  • Vesting schedules vary; some plans vest faster than typical 401(k) plans, and a few allow immediate vesting.

Contribution limits and catch‑up rules

  • Combined annual deferral limit for 2025 is $23,500 (applies across multiple plans if eligible).
  • Individuals aged 50 and over may make an additional catch‑up contribution of $7,500 in 2025.
  • Some 403(b) plans permit special catch‑up contributions based on length of service (for example, employees with 15+ years of service at certain nonprofits or public agencies).

Investment options and restrictions

  • Common investments: variable annuities and mutual funds.
  • Many plans prohibit investments such as individual stocks and certain alternative assets (e.g., some REITs).
  • Investment choice tends to be narrower than in many private‑sector 401(k) plans.

Taxes and withdrawals

  • Distributions from a traditional 403(b) are taxed as ordinary income when withdrawn.
  • Withdrawals before age 59½ are generally subject to income tax plus a 10% early‑withdrawal penalty.
  • The 10% penalty may be avoided in specific situations (for example, separation from service at age 55 or older, qualified medical expenses, or disability), though income tax still applies unless the money came from a Roth account and meets Roth distribution rules.
  • Roth 403(b) qualified distributions are tax‑free if they meet required holding and other IRS conditions.

Advantages

  • Tax deferral or tax‑free growth (Roth) can accelerate retirement savings.
  • Employer matching may be available.
  • Some plans offer shorter or immediate vesting schedules.
  • Additional catch‑up options may be available based on age or years of service.

Disadvantages

  • Narrower investment choices compared with many 401(k) plans.
  • Some 403(b) accounts—particularly older annuity contracts—may have less creditor protection depending on state law and plan design.
  • Early withdrawals face tax and penalty consequences.
  • Not all employers offer a Roth option.

403(b) vs. 401(k)

  • Both are employer‑sponsored, tax‑advantaged retirement plans with similar contribution rules.
  • 403(b) plans are limited to public education employers and qualifying nonprofits; 401(k)s are common in the private sector.
  • 403(b) plans often include annuity options and typically have fewer investment choices than 401(k)s.

Eligible employers

Only public educational institutions and organizations that qualify as 501(c)(3) tax‑exempt entities may establish a 403(b) plan.

Bottom line

A 403(b) is a tax‑advantaged retirement plan designed for employees of public schools and certain nonprofits. It functions similarly to a 401(k) but often features annuity options, narrower investment menus, and special catch‑up provisions for long‑service employees. Understanding contribution limits, tax treatment (traditional vs. Roth), vesting, and withdrawal rules will help employees use a 403(b) effectively as part of their retirement strategy.