General | Taxes | Eligibility | Distributions | Loans | Contributions | Investments
You should check your custodial account agreement or annuity contract for the rules specific to your plan. Below is general information about some situations in which distributions are permitted, and the related tax implications and penalties for each.
Once you reach age 59½, you can generally begin to withdraw money from your 403(b) with no penalty. Federal, state and local income taxes are due on the amount you withdraw.
Distributions before age 59½ may be allowed under the following circumstances:
While distributions are generally allowed for these reasons, you could still be liable for a 10 percent penalty from the IRS for early withdrawal. Depending on the hardship rules in your plan, you could have to prove that you have exhausted all other financial resources. All applicable federal, state and local income taxes are also due on the amount you withdraw.
You will not have to pay the 10 percent early withdrawal penalty if the distribution occurs for one of the following reasons:
Any money withdrawn for the above reasons would still be subject to applicable federal, state and local income taxes.
For all money in the plan as of Dec. 31, 1986, you may wait until age 75.
For money contributed and earned after 1987, you must begin taking what are known as required minimum distributions (RMDs) no later than April 1 of the calendar year following the calendar year in which you reach 70½. Or, if you are still working at age 70½, you must begin taking RMDs by April 1 of the calendar year following the year in which you retire.
By the way, if you fail to take RMDs on time, or if you don't take out enough, you will be liable for a penalty of 50 percent of what you should have taken out.
The 10 percent penalty applies to the entire untaxed amount that you withdraw. For a $5,000 early withdrawal, for example, you would owe a penalty of $500, plus applicable federal, state and local taxes on the entire $5,000.
If you've made after-tax contributions to your 403(b), it gets a bit more complicated. You do not have to pay the 10 percent penalty or any additional taxes on withdrawals of your after-tax contributions. You do, however, have to pay the 10 percent penalty and all applicable taxes on withdrawals of any interest earned and employer-matching contributions made as a result of your after-tax contributions.
If you're thinking "I'll just take out my after-tax contributions and leave the earnings where they are" -- nice try, but no dice. Generally, for every after-tax contribution dollar you withdraw, the IRS requires you to withdraw a proportional amount of the earnings, too. If you had a 403(b) contract containing after-tax dollars as of Dec. 31, 1986, you may be eligible to withdraw a certain amount of after-tax dollars without withdrawing the income.
The distribution for the first year (the year in which you turn 70½) must be made no later than April 1 of the following year. A second distribution must be taken by Dec. 31 of that year, and subsequent distributions must be taken by Dec. 31 of every year.
Your 403(b) plan is intended to be a long-term investment plan, but many employers allow workers to access their money during their working years through plan loans.
Unlike hardship distributions, with plan loans there are no taxes or penalties owed at the time of withdrawal. Although legally loans can be allowed for any reason, many 403(b) plans permit them only in specific situations, such as paying college tuition or buying a house. Repayments of loan principal and interest are generally deducted directly from your paycheck after taxes and deposited into your 403(b) account.
A distribution of a 403(b) account to a beneficiary is considered income, and the recipient must pay income tax on it. In addition, the total account is included in the estate of the deceased and is therefore also subject to estate tax. The combination of income and estate taxes can take 60 percent or more of the account.
There are legal requirements that generally force the beneficiary to take the money out of the 403(b). A non-spouse beneficiary is not allowed to roll over an inherited 403(b) to his or her own 403(b), 401(k) or 457 plan or IRA. Under most circumstances, a spouse beneficiary will be permitted to roll the money over into an IRA, but not an employer-sponsored retirement plan. A professional tax advisor should be consulted on this point.
The rationale for these restrictions is that 403(b) tax breaks are designed to help workers build funds for retirement, not to build an estate that will pass to heirs without tax.
No, as long as the vendor remains in operation. Even when you leave your employer, you can keep your 403(b) investments, because the relationship is between you and the vendor. Keep in mind, however, that you have to begin taking required minimum distributions after you turn 70½.