The average person changes jobs 11 times in his lifetime, so it's no surprise that most of us leave a trail of employer retirement plans as we move from job to job. While it's certainly possible to keep all those plans growing on their own, it's probably not the best solution. Most people find it easier to manage their money when it's all in one place, and you'll get a lot more investment choices with a self-directed Individual Retirement Account. Luckily, it's simple to move your 403(b) balance into a new account if that option is the right choice for you.
What Are the Key Features of a 403(b)?
A 403(b) is the non-profit equivalent of a 401(k); it's the retirement plan certain hospitals, public schools or other tax-exempt organizations will offer you. The plans themselves come in all shapes and sizes but they all enjoy some serious tax advantages. Contributions are made with pre-tax dollars, which reduces your taxable income and helps you save on your annual tax bill. Plus, your investments grow tax-free until you reach retirement. Like with a 401(k), you only pay taxes on the money you eventually take out when you retire.
You can only contribute so much to a 403(b) plan each year but the limits are comparatively high. In 2018, you can contribute up to $18,500, or $24,500 if you are over age 50. Those figures will go up to $19,000/ $25,000 in 2019. Many employers will match some or all of the contributions you make to the plan, which essentially is free money.
What Happens When You Leave Your Job?
When you leave a job, one of the key decisions you must make is what to do with your employer-sponsored retirement plan. You have several choices:
- Leave the money in the 403(b).
- Move the money to your new employer's 403(b) or 401(k) plan.
- Transfer the 403(b) to an IRA.
- Cash out the plan.
Of these options, cashing out the plan will probably cause more problems than it solves. Anytime you take money from a retirement plan before you reach the age of 59 1/2, the cash becomes part of your taxable income. You'll owe federal taxes on the money, and you'll also have to pay state and local taxes. Even worse, the IRS will charge you a 10 percent penalty fee on the withdrawal. The charges take chunks out of your retirement pot.
The other options are potentially much better moves, and which one you choose depends on your personal circumstances. If you're starting a new job with a retirement plan, then you can easily transfer the money from your old 403(b) without taking a tax hit. If not, then most organizations will let you keep your 403(b) as long as there's at least $5,000 invested in the plan. If the plan offers some unique benefits, then leaving your money behind might make a lot of sense.
The final option is to take control of the money yourself by investing it into an Individual Retirement Account. An IRA is a self-directed retirement account that you fund with your own contributions. IRA contribution limits are lower – just $5,500 in 2018 ($6,000 in 2019) plus a $1,000 catch-up if you're aged over 50. Despite this, rolling over your various employer plans into an IRA might be the best choice.
More Investment Options With an IRA
You might think that your 403(b) gave you a lot of funds to choose from, but an IRA opens up a universe of options. You can house just about any investment in an IRA – cash, stocks, bonds, mutual funds, certificates of deposit, exchange-traded funds, income-producing real estate, even gold – anything except derivatives, antiques and personal real estate. If you wish to have more investment choices at your fingertips, then moving your money to an IRA is a good idea.
IRA Vs. 403(b): Streamline Your Retirement Accounts
It's not unusual for people to have four or five different retirement plans from all the places they've ever worked, and these plans will all have different investments and benefits. While it's possible to maintain all these accounts, it's also hard work. Ideally, you will check your retirement plans regularly to make sure they are properly invested and your retirement fund is working hard to build wealth for your retirement.
Some people find it easier to monitor their fund when all the money is in one place. Move the various plans to an IRA, and you have only one set of investment earnings and one statement to look at.
Maintains Tax-Deferred Growth While Keeping Your Options Open
There are two main types of IRAs: a traditional and a Roth. You're permitted to roll the money into either type of account. Like a 403(b), a traditional IRA is funded with pre-tax dollars so you get an immediate tax saving on your contributions. Rolling the 403(b) balance into a traditional IRA maintains your tax-deferral of the money, and the fund will continue to grow tax-free until you start to make withdrawals.
A Roth IRA is funded with post-tax dollars so there's no upfront tax savings. The upside is that you can take tax-free income when you retire, as long as you aged 59 1/2 and the account has been established for at least five years.
The benefit here is that you can diversify your tax liability. If you think you will be in a lower tax bracket when you retire, then a traditional IRA may be in your best interest. If it's the other way round, then putting the money in a Roth might be a windfall for your retirement income. Roths don't require minimum distributions at age 70 1/2, so you can put money away for a lifetime.
You Can Perform a 403(b) Rollover Tax-Free
If you roll over to a traditional IRA, you don't need to pay taxes. As long as you designate the rollover as a "direct" rollover, the administrator will transfer the 403(b) balance directly to the IRA trustee. There's no tax to pay and no early withdrawal penalty. It's that simple.
You'll have to pay income taxes on a rollover to a Roth because you're moving the money to an after-tax account. This is known as a conversion. This can chew a large hole in your fund balance now, but the payoff is tax-free income at retirement.
Another option is something called an "indirect" rollover, where the employer sends the account balance to your personal account. Since the fund distribution is made payable to you, the administrator is obligated to make a deduction of 20 percent for federal tax withholdings. You have 60 days to deposit the entire balance, including the withholding, into your IRA. When you deposit the check into a new retirement account, make sure you also deposit an amount equal to the taxes withheld in Box 4 of your 1099-R. The Box 4 amount will either be added to your refund or applied to your tax liability. If you miss the 60-day window, the IRS will treat the rollover as a premature distribution from your 403(b) and charge you taxes plus a 10 percent early payment penalty.
It's Easier to Withdraw Early From an IRA
Once you reach 59 1/2, you can take withdrawals from a 403(b) or an IRA penalty-free. Withdraw before that age, and the general rule is you'll forfeit a 10 percent penalty on the distribution. IRA rules are more lenient, however. Generally, the IRS will not assess a penalty on an early IRA distribution if:
- You withdraw up to $10,000 to buy a first-time home.
- You're unemployed and need to purchase medical insurance.
- You use the money to pay medical expenses that exceed 7.5 percent of your adjusted gross income.
- The money pays for certain higher education costs.
- You become disabled.
You can borrow any amount against the contributions and conversion income in your Roth without penalty, and for any or no reason, because you've already paid taxes on this money.
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- Internal Revenue Service: 403(b) Contribution Limits
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- Internal Revenue Service: Rollovers from Retirement Plans
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- Merrill Edge: Should I Roll Over My 403(b) Account into an IRA?