Distributions and Taxes on 403(b) Plans
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Distributions and Taxes on 403(b) Plans
Taxes, in brief
All deferrals to a 403(b) plan within the maximum amount contributable (MAC) are tax-deferred. Tax is deferred on the contributions, the net investment income, and realized capital gains that accumulate in the plan until the individual begins making withdrawals from it.
Things To Know
- In most cases, taking periodic payments will reduce the tax burden on distributions.
An example of how it works
Imagine a teacher who paid $100,000 into a 403(b) over several years. Suppose that the account is now worth $200,000 due to earnings and appreciation. If the teacher chooses to receive a lump-sum payout, the entire amount ($200,000) will be taxed as ordinary income.
When are distributions allowed?
A 403(b) plan allows employees to take money out of the plan when they reach age 59½. Generally, you must take required minimum distributions at age 73. The following situations also allow distributions before age 59½:
- Severance from employment during the year one turns 55 or later
- Disability or death
- Being a qualified reservist
Early distributions may come with a 10% penalty unless they meet the exceptions above. In addition, certain financial hardships also qualify. These hardships are now the same for 403(b) as they are for 401(k) plans.
New in 2024, the list of exceptions expands to include the following:
- Emergency expenses
- Domestic abuse.
- A qualified federally declared disaster
- Terminal illness
These exceptions come with rules and limits.
How employees can take distributions
There are several ways to withdraw funds from a 403(b) plan. Funds may be taken in a lump sum or in periodic payments. In most cases, taking periodic payments will reduce the tax burden on distributions, since a lump sum payment may put the recipient in a higher income tax bracket.
Are loans permitted?
A 403(b) plan may allow loans, though it is not required to. Employees may take a loan to the extent allowed by the plan.