403(b) Salary Deferral Plan
Eligibility
Employees of religious, charitable, educational, scientific and literary organizations described in IRC Sec. 501(c)(3) or public school systems are eligible.
Making Employer Contributions
While employer contributions are allowed, typically the employee agrees to have his or her salary reduced by the contribution amount. If the employer contributes its own funds, the arrangement is subject tomany of the same rules thata govern regular qualified plans.
Contribution Limits
The allocation total of employer contributions and employee deferrals to a participant’s account may not exceed the lesser of 100% of compensation 1 (limited to a maximum of $220,000), or $44,000 per year. An employee’s elective contributions to the plan are limited to $15,000 2 on a calendar-year basis. For those age 59 or older, additional “catch-up: contributions of $5,000 may be made.
Beginning in 2005, federal law allows a 403(b) plan sponsor to modify plan provisions to allow participation the option to contribute to a Roth account. Contributions to a Roth 403(b) account would be made with after-tax dollars and would be subject to the same employee elective deferral limits as the 403(b) plan
When to Setup a TSA
A TSA may be setup at any time during the year. However, salary-reduction agreements must be entered into before the reduced salary amounts are available to the employee. As employee can later modify the deferral amount, but only with respect to future income.
Investing Funds
There are three investiments from which to choose:
- Annuities (fixed or variable and individual or group)
- Custodial accounts invested in mutual funds
- Combination of whole life insurance and annuities
Custodian of the Assets
An insurance company acts as the custodian for annuitites and insuranc policies. Mutual funds are placed with a corporate trustee.
Required Distributions
Generally the funds are withdrawn at retirement. In order to avoid penalties, withdrawals must begin in the calendar year during which the taxpayer became 701/2 or, if later, the calendar year during which the employee actually retires.3
Borrowing TSA Funds
Participants can borrow funds from the TSA and later repay them without incurring a tax, if established conditions are met regarding maximum loan amount, amortization requirements, time period for repayments, etc.
Early Withdrawal Penalties
There is a 10% penalty for withdrawals prior to age 591/2 and all withdrawals are taxed currently as ordinary income unless the distribution is rolled over; transferred to another TSA; or the annuitant is totally disabled, separates from service (after age 55) or dies. Also, the salary-reduction amount (but not the earinings) is available for financial hardship; e.g., an immediate and heavy financial need which cannot be met with other assets.
The Death of a TSA Participant
When a participant dies, TSA proceeds become part of his or her taxable estate for federal estate tax purposes and they are considered as ordinary income to the beneficiary, except for any “pure” insurance proceeds.
Changing from One TSA to Another
The transfer of funds from one 403(b) investment to another will not be considered a taxable distribution if the funds remain subject to any distribution restrictions on the prior investment. See Revenue Ruling 90-24. If a TSA is rolled directly into an IRA, it will defer taxation. If it is paid to the participant first, it will be subject to the mandatory 20% income tax withholding rule.
Federal Bankruptcy Impact
Federeal bankruptcy law provides significant protection from creditors toparticipant accounts or accrued benefits in tax-exempt retirement plans.
Counting Deferred Amounts as Current Compensation
Deferred amounts can be counted as current compensation in computing benefits under a separate qualified pension plan, if the qualified plan so provides.
End Result
The employee avoids current income taxation on the deferred amount (except it is included in the Social Security base).
The earnings on the accumulating funds are not taxed until they are distributed.
Comparison of Federal Income Tax Payable4 |
||||
Without 403(b) Plan |
With 403(b) Plan |
Benefit |
||
Taxable Income Before $4,000 Salary Reduction |
Tax Due Without Annuity |
Taxable Income After Reduction |
Tax Due with Annuity |
Current Income Tax Reduction |
$25,000 |
$2,995 |
$21,000 |
$2,395 |
$600 |
35,000 |
4,495 |
31,000 |
3,895 |
600 |
45,000 |
5,995 |
41,000 |
5,395 |
600 |
55,000 |
7,495 |
51,000 |
6,895 |
600 |
85,000 |
14,365 |
81,000 |
13,365 |
1,000 |
How a 403(b) Salary Deferral Plan Works
Securities offered through
Ogilvie Security Advisors, Corp.
900 N. Michigan Avenue Suite 1860, Chicago, IL 60611
(312) 335-5476
Member NASD/SIPC