403(b) and 457(b) Plans
403(b) and 457(b) Plans
403(b) and 457(b) plans are tax-deferred retirement savings programs provided by certain employers. Employers such as public educational institutions (public schools, colleges and universities), certain non-profits, and churches or church-related organizations may offer 403(b) plans. Employers such as state and local government agencies and certain non-profit organizations may offer 457(b) plans. Some employers may offer both 403(b) and 457(b) plans, and allow you to contribute to both plans. Contact your employer to find out if both plans are available.
Similar to 401(k) plans, 403(b) and 457(b) plans allow you to contribute pre-tax money from your paycheck to your 403(b) or 457(b) plan to invest in certain investment products. These pre-tax contributions and their investment earnings will not be taxed until you withdraw the money, typically after you retire.
IMPORTANT! The rules and tax consequences related to withdrawing money differ between 403(b) and 457(b) plans. For additional information on these rules and tax consequences, please consult a tax professional. You may also find general tax information about these plans on the Internal Revenue Service’s (“IRS”) website (IRS 403(b) webpage, IRS 457(b) webpage).
The IRS determines the annual contribution limits for both 403(b) and 457(b) plans. In 2017, the annual contribution limit for both 403(b) and 457(b) plans is $18,000. In addition to that amount, both plans allow “catch-up contributions” of up to $6,000 for eligible participants (those age 50 or older or turning 50 that year). Each plan has specific rules governing contribution limits and “catch-up contributions.” You can review these rules on the IRS’s website (403(b) contributions, 457(b) contributions).
IMPORTANT! Contribution limits for both 403(b) and 457(b) plans may change each year. Please remember to confirm the current contribution limits for each plan on the IRS’s website (403(b) contributions, 457(b) contributions).
Things to consider when selecting a vendor
Your employer may allow you to choose your 403(b) or 457(b) plan provider from a group of pre-selected financial professionals or firms (“vendors”). Do not assume that your employer has endorsed any vendor. Determining which investment products best meet your financial objectives and identifying a vendor who sells those products is very important. Different vendors sell different types of products, and some vendors only offer a limited number of choices. Before selecting a vendor you should:
- Read your employer’s 403(b) or 457(b) plan documents to learn the basic rules for how your plan operates.
- Read each vendor’s 403(b) or 457(b) plan materials. A vendor’s plan materials generally may include:
- A background description of the vendor
- A description of the vendor’s investment products and services, including information related to product fees and past investment performance
- Information related to the vendor’s fees for administering and operating the 403(b) or 457(b) plan (“vendor fees”), including: brokerage fees, advisor fees, account transfer or closure fees, recordkeeping or custodial fees, and general administrative fees
- A discussion of the tax information related to investing in a 403(b) or 457(b) plan; and
- Any additional information the vendor may need to provide as required by applicable federal or state laws.
- Research each vendor’s background, credentials and experience. Ask your employer to provide you with any background information it has on the vendors in your 403(b) or 457(b) plan. Some states require vendors that provide these plans to register with one or more state regulators – in addition to any required registrations under federal laws. If your state requires these vendors to register, it may provide resources to assist you in researching vendors (e.g., California and Texas). Some vendors may be registered with the SEC or state securities regulators. For tips on researching a vendor registered with the SEC or state securities regulators, please read our Investor Bulletin: Top Tips for Selecting a Financial Professional. Vendors that are insurance companies generally register with your state’s insurance commission. For information on how to research insurance companies in your state contact your state insurance commission.
- Understand how much you’ll pay for the vendor’s investment products and services, including any fees or commissions. Ask each vendor if it provides this information in a simple form that you can easily compare to similar information from other vendors.
IMPORTANT! Your employer selects the vendors you may choose from for your 403(b) or 457(b) plans. Some employers only offer a single vendor. Contact your employer to find out your vendor options for your specific 403(b) and 457(b) plans.
As a participant in a 403(b) or 457(b) plan, you may need to choose among different types of investments. Typically, 403(b) and 457(b) plans offer two types of investment products – annuities and mutual funds.
An annuity is a contract between you and an insurance company that requires the insurer to make payment to you, either immediately or in the future. There are three basic types of annuities:
- Fixed annuity. The insurance company promises you a minimum rate of interest and a fixed amount of periodic payments. Fixed annuities are regulated by state insurance commissions. Please check with your state insurance commission about the risks and benefits of fixed annuities.
- Variable annuity. The insurance company allows you to direct your annuity payments to different investment options, usually mutual funds. Your payout will vary depending on how much you put in, the rate of return on your investments, and expenses. The SEC regulates variable annuities. For more information about their benefits and risks, please read our Updated Investor Bulletin: Variable Annuities.
- Indexed annuity. This annuity combines features of securities and insurance products. The insurance company credits you with a return that is based on a stock market index, such as the Standard & Poor’s 500 Index. Indexed annuities are regulated by state insurance commissions. Please check with your state insurance commission about the risks and benefits of indexed annuities.
A mutual fund is the common name for an open-end investment company. Like other types of investment companies, mutual funds pool money from investors and invests the money in stocks, bonds, short-term debt or money market instruments, or other securities. Mutual funds issue redeemable shares that investors buy directly from the fund or through a broker for the fund.
IMPORTANT! Vendors may use different names for these investment products. After reviewing the vendor’s plan materials, if you are uncertain about what type of investment product a vendor offers, contact the vendor and ask them to explain it to you.
Questions to ask when choosing investment products
It will be up to you to select investments that best meet your financial objectives. Although you may be eligible to participate in a 403(b) or 457(b) plan, do not assume that your employer has endorsed any particular investment product offered through the plan. Before selecting an investment product for your 403(b) or 457(b) plan, ask the following three questions:
- What fees will I pay?
- Will I have to pay any penalties if I change my investment choices? If so, how much?
- Does the vendor make more money for selling me one product over another?
What fees will I pay?
Fees and expenses vary from investment product to investment product — and they can take a huge bite out of your returns. An investment product with high costs must perform better than a low-cost investment product to generate the same returns for you. Even small differences in fees can mean large differences in returns over time.
If a vendor tells you an investment product has “no fees,” it may mean there are no upfront fees when buying the investment product. But most investment products in 403(b) and 457(b) plans have expenses related to their operation that come out of their investment returns on an ongoing basis (e.g., an expense ratio for mutual funds or administrative expenses for annuities). These ongoing expenses can have a major impact on the investment product’s overall investment return.
For mutual funds and variable annuities, you can find information on costs and fees in the prospectuses. For fixed annuities, check the sales literature or the contract. If you need additional help understanding mutual fund related fees, please read our Investor Bulletin: Mutual Fund Fee Expenses. If you need additional help understanding variable annuity fees, please read our Updated Investor Bulletin: Variable Annuities.
In addition to investment product fees, you should also carefully consider the impact of vendor fees. You can generally find these fees in the vendor’s plan materials.
For additional information on how fees can impact your investment returns, read our Investor Bulletin: How Fees and Expenses Affect Your Investment Portfolio.
Will I have to pay any penalties if I change my investment choices? If so, how much?
Make sure you know the answer to this question before you make your investment choices. For example, if you withdraw money from an annuity within the first few years, the insurance company may assess a "surrender" charge. A surrender charge compensates the vendor who sold the annuity to you.
Generally, the surrender charge is a percentage of the amount you sell or exchange, and declines gradually over a period of several years, known as the "surrender period." Some annuity contracts will allow you to withdraw part of your account value each year — 10% or 15% of your account value, for example — without paying a surrender charge.
Some mutual funds have a back-end sales load known as a "contingent deferred sales load." Like a surrender charge for an annuity, the amount of this type of load will depend on how long the shares are held, and it typically decreases to zero if the investor holds the shares long enough. The rate at which this fee will decline is disclosed in the fund's prospectus.
A redemption fee is another type of fee that some mutual funds charge their shareholders when the shareholders redeem their shares. Unlike a sales load, a redemption fee is typically used to defray fund costs associated with a shareholder's redemption and is paid directly to the fund, not to a vendor. The SEC generally limits redemption fees to 2%. For additional information on mutual fund fee expenses, read our Investor Bulletin: Mutual Fund Fee Expenses.
The question of whether you must pay a penalty or other fee for switching among investment choices in your plan is different from whether you must pay a penalty for taking money out of your 403(b) or 457(b) plan. You usually have to pay a tax penalty for early (pre-retirement) withdrawals from tax-deferred retirement plans. Consider consulting with a tax professional before you take money out of your 403(b) or 457(b) plan.
Does my vendor make more money for selling me one product over another?
Always ask how -- and how much – the vendor receives as payment for selling a particular investment product. For example, you could ask:
- Do you receive a commission for selling Product X to me? If so, how much?
- Do you get any other type of compensation for selling Product X? If so, what? (This could include a bonus or points toward some other reward, such as a trip or a cruise.)
- Are there any other products that can meet my financial objectives at a lower cost to me, even if you do not sell those products?
The Financial Industry Regulatory Authority (FINRA) provides an online tool called the FINRA fund analyzer. This fund analyzer offers information and analysis on several mutual funds, exchange traded funds (ETFs) and exchange traded notes (ETNs). This tool estimates the value of the funds and impact of fees and expenses on your investment and also allows you the ability to look up applicable fees and available discounts for funds. Please visit the FINRA website to use the fund analyzer.
Some 403(b) plans must comply with the Employee Retirement Income Security Act (ERISA). Please visit the U.S. Department of Labor’s 403(b) plan webpage to learn more about the ERISA requirements for these plans.
Select State Resources:
- 403bCompare – California State Teachers’ Retirement System 403(b) webpage
- Teacher Retirement System of Texas 403(b) webpage
For a list of questions you should ask when considering an investment, see Ask Questions: Questions You Should Ask about Your Investments. This publication is also available in Spanish.
For general information about saving and investing, see Saving and Investing: a Roadmap to Your Financial Security through Saving and Investing. This publication is also available in Spanish.
For additional investor education information, see the SEC’s website for individual investors, Investor.gov.
The Office of Investor Education and Advocacy has provided this information as a service to investors. It is neither a legal interpretation nor a statement of SEC policy. If you have questions concerning the meaning or application of a particular law or rule, please consult with an attorney who specializes in securities law.