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What are the Advantages of
Having a TSA/403(b)? |
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It "forces" you to save, to put money aside
for your future retirement use through the convenience of
payroll deduction.
The payment of federal and state
income taxes is deferred until you withdraw money from your
plan. Your tax rate during retirement may be lower than your
current tax rate. During your retirement, you may live in a
state which does not have an income tax or may have a lower tax
rate than the one in which you currently pay taxes.
The investment income (interest,
dividends and capital gains) earned in your TSA plan is not
taxed until you begin withdrawing during retirement. Thus, the
full amount of investment income is being reinvested in the plan
-- the compounding effect is much greater.
Remember, the income earned will
be taxed at the time it is withdrawn, along with the money you
contributed.
403(b) Basics & FAQ's:
Individual accounts in a 403(b) plan
can be any of the following types.
- An annuity contract, which is a contract provided
through an insurance company,
- A custodial account, which is an account invested in
mutual funds, or
- A retirement income account set up for church employees.
Generally, retirement income accounts can invest in either
annuities or mutual funds.
What are the
Benefits of Contributing to a 403(b) Plan?
There are three benefits to contributing to a 403(b) plan.
- The first benefit is that you do not pay tax on
allowable contributions in the year they are made. You do
not pay tax on allowable contributions until you begin
making withdrawals from the plan, usually after you retire.
Allowable contributions to a 403(b) plan are either excluded
or deducted from your income.
- The second benefit is that earnings and gains on amounts
in your 403(b) account are not taxed until you withdraw
them.
- The third benefit is that you may be eligible to take a
credit for elective deferrals contributed to your 403(b)
account.
Who Can
Participate in a 403(b) Plan?
Any eligible employee can participate in a 403(b) plan.
Eligible employees. The following
employees are eligible to participate in a 403(b) plan.
- Employees of tax-exempt organizations established
under section 501(c)(3) of the Internal Revenue Code.
These organizations are usually referred to as
section 501(c)(3) organizations
or simply 501(c)(3)
organizations.
- Employees of public school systems who are involved in
the day-to-day operations of a school.
- Employees of cooperative hospital service
organizations.
- Civilian faculty and staff of the Uniformed Services
University of the Health Sciences (USUHS).
- Employees of public school systems organized by Indian
tribal governments.
- Certain ministers (explained next).
Ministers. The following
ministers are eligible employees for whom a 403(b) account can
be established.
- Ministers employed by section 501(c)(3) organizations.
- Self-employed ministers. A self-employed minister is
treated as employed by a tax-exempt organization that is a
qualified employer.
- Ministers (chaplains) who meet both of the following
requirements.
- They are employed by organizations that are not
section 501(c)(3) organizations.
- They function as ministers in their day-to-day
professional responsibilities with their employers.
Who Can Set Up a
403(b) Account?
You cannot set up your own 403(b) account. Only employers can
set up 403(b) accounts. A self-employed minister cannot set up a
403(b) account for his or her benefit. If you are a
self-employed minister, only the organization (denomination)
with which you are associated can set up an account for your
benefit.
How Can
Contributions Be Made to My 403(b) Account?
Generally, only your employer can make contributions to your
403(b) account. However, some plans will allow you to make
after-tax contributions (defined later).
The following types of contributions can be made to 403(b)
accounts.
- Elective deferrals .
These are contributions made under a salary reduction
agreement. This agreement allows your employer to withhold
money from your paycheck to be contributed directly into a
403(b) account for your benefit. You do not pay tax on these
contributions until you withdraw them from the account.
- Nonelective contributions
. These are employer contributions that are not made
under a salary reduction agreement. Nonelective
contributions include matching contributions, discretionary
contributions, and mandatory contributions from your
employer. You do not pay tax on these contributions until
you withdraw them from the account.
- After-tax contributions
. These are contributions you make with funds that
you must include in income on your tax return. A salary
payment on which income tax has been withheld is a source of
these contributions. If your plan allows you to make
after-tax contributions, they are not excluded from income
and you cannot deduct them on your tax return.
- A combination of any of
the three contribution types listed above.
Self-employed minister. If you are a
self-employed minister, you are considered both an employee
and an employer, and you can contribute to a retirement income
account for your own benefit.
How Much Can Be
Contributed to My 403(b) Account?
There are limits on the amount of contributions that can be
made to your 403(b) account each year. If contributions made to
your 403(b) account are more than these contribution limits,
penalties may apply.
Limit on
Annual Additions This is a limit on the total
contributions (elective deferrals, nonelective contributions and
after-tax contributions) that can be made to your 403(b)
account.
More than one 403(b) account.
If you contributed to more than one 403(b) account, you
must combine the contributions made to all 403(b) accounts on
your behalf by your employer.
Participation in a qualified plan.
If you participated in a 403(b) plan and a qualified
plan, you must combine contributions made to your 403(b) account
with contributions to a qualified plan and simplified employee
pensions of all corporations, partnerships, and sole
proprietorships in which you have more than 50% control.
Includible
Compensation for Your Most Recent Year of Service
Definition. Generally, includible
compensation for your most recent year of service is the
amount of taxable wages and benefits you received from the
employer that maintained a 403(b) account for your benefit
during your most recent year of service.
Most Recent Year of Service
Your most recent year of service is your last full year of
service, ending on the last day of your tax year that you worked
for the employer that maintains a 403(b) account on your behalf.
After identifying your most recent year of service, the next
step is to identify the includible compensation associated with
that full year of service.
Includible compensation is not the same as income included on
your tax return. Compensation is a combination of income and
benefits received in exchange for services provided to your
employer.
Generally, includible compensation is the amount of income
and benefits:
- Received from the employer who maintains your 403(b)
account, and
- Must be included in your income.
You determine the amount you must include in income without
taking into account the foreign earned income exclusion.
Includible compensation does
include the following amounts.
- Elective deferrals (employer's contributions made on
your behalf under a salary reduction agreement).
- Amounts contributed or deferred by your employer under a
section 125 cafeteria plan.
- Amounts contributed or deferred, at the election of the
employee, under an eligible section 457 nonqualified
deferred compensation plan (state or local government or
tax-exempt organization plan).
- Wages, salaries, and fees for personal services earned
with the employer maintaining your 403(b) account.
- Income otherwise excluded under the foreign earned
income exclusion.
- The value of qualified transportation fringe benefits
(including transit passes, certain parking, and
transportation in a commuter highway vehicle between your
home and work).
Includible compensation does not
include the following items.
- Your employer's contributions to your 403(b) account.
- Compensation earned while your employer was not an
eligible employer.
- Your employer's contributions to a qualified plan that:
- Are on your behalf, and
- You can exclude from income.
- The cost of incidental life insurance.
Contributions after retirement. Nonelective
contributions may be made for an employee for up to five years
after retirement. These contributions would be based on
includible compensation for the last year of service before
retirement.
Cost of Incidental
Life Insurance
Includible compensation does not include the cost of
incidental life insurance.
Note. If all of your
403(b) accounts invest only in mutual funds, then you have no
incidental life insurance.
If you have an annuity contract, a portion of the cost of
that contract may be for incidental life insurance. If so, the
cost of the insurance is taxable to you in the year contributed
and is considered part of your basis when distributed. Your
employer will include the cost of your insurance as taxable
wages in box 1 of Form W-2.
Not all annuity contracts include life insurance. Contact
your plan administrator to determine if your account includes
incidental life insurance. If it does, you will need to figure
the cost of life insurance each year the policy is in effect.
Figuring the cost of incidental life
insurance. If you have determined that part of the
cost of your annuity contract is for an incidental life
insurance premium, you will need to determine the amount of the
premium and subtract it from your includible compensation.
To determine the amount of the life insurance premiums you
will need to know the following information.
- The value of your life insurance contract, which is the
amount payable upon your death.
- The cash value of your life insurance contract at the
end of the tax year.
- Your age on your birthday nearest the beginning of the
policy year.
- Your current life insurance protection under an ordinary
retirement income life insurance policy, which is the amount
payable upon your death minus the cash value of the contract
at the end of the year.
Limit on
Elective Deferrals This is a limit on the amount of
contributions that can be made to your account through a salary
reduction agreement.
A salary reduction agreement
is an agreement between you and your employer allowing for a
portion of your compensation to be directly invested in a 403(b)
account on your behalf. You can enter into more than one salary
reduction agreement during a year.
More than one 403(b) account.
If, for any year, elective deferrals are contributed to more
than one 403(b) account for you (whether or not with the same
employer), you must combine all the elective deferrals to
determine whether the total is more than the limit for that
year.
403(b) plan and another retirement
plan. If, during the year, contributions in the form of
elective deferrals are made to other retirement plans on your
behalf, you must combine all of the elective deferrals to
determine if they are more than your limit on elective
deferrals. The limit on elective deferrals applies to amounts
contributed to:
- 401(k) plans, to the extent excluded from income,
- Section 501(c)(18) plans, to the extent excluded from
income,
- SIMPLE plans,
- Simplified employee pension (SEP) plans, and
- All 403(b) plans.
Excess elective deferrals. If the
amount contributed is more than the allowable limit, you must
include the excess in your gross income for the year
contributed.
Under the general limit on elective deferrals, the most
that can be contributed to your 403(b) account through a
salary reduction agreement for 2003 is $12,000. The limit for
2004 is $13,000. This limit applies without regard to
community property laws.
If you have at least 15 years of service with a public
school system, hospital, home health service agency, health
and welfare service agency, church, or convention or
association of churches (or associated organization), the
limit on elective deferrals to your 403(b) account is
increased.
To determine if you are eligible for the increased limit
on elective deferrals you will first need to figure your
years of service . How you
figure your years of service depends on whether you were a
full-time or a part-time employee, whether you worked for
the full year or only part of the year, and whether you have
worked for your employer for an entire year.
You must figure years of service for each year during
which you worked for the employer who is maintaining your
403(b) account.
If more than one employer maintains a 403(b) account for
you in the same year, you must figure years of service
separately for each employer.
Catch-Up Contributions
The most that can be contributed to your 403(b) account is
the lesser of your limit on annual additions or your limit on
elective deferrals.
If you will be age 50 or older by the end of the year, you
may also be able to make additional
catch-up contributions. These additional
contributions cannot be made with after-tax employee
contributions.
You are eligible to make catch-up contributions if:
- You will have reached age 50 by the end of the year, and
- The maximum amount of elective deferrals that can be
made to your 403(b) account have been made for the plan
year.
Figuring catch-up contributions.
When figuring allowable catch-up contributions, combine all
catch-up contributions made by your employer on your behalf to
the following plans.
- Qualified retirement plans. (To determine if your plan
is a qualified plan ask your plan administrator.)
- 403(b) plans.
- Simplified employee pension (SEP) plans.
- SIMPLE plans.
The total amount of the
catch-up contributions on your behalf to all plans maintained
by your employer cannot be more than the annual limit.
If your 403(b) account invests in mutual funds, and you
exceed your limit on annual additions, you may be subject to a
6% excise tax on the excess contribution. The excise tax does
not apply to funds in an annuity account or to excess
deferrals.
You must pay the excise tax each year in which there are
excess contributions in your account. Excess contributions can
be corrected by contributing less than the applicable limit in
later years or by making permissible distributions.
You cannot deduct the excise tax.
Permissible distributions. A
permissible distribution is a distribution that can be made
when one of the following events occurs.
- You reach age 59½.
- You have a severance from employment.
- You die.
- You become disabled.
- In the case of salary reduction contributions, you
encounter financial hardship.
Distributions and
Rollovers
Generally, a distribution cannot be made from a 403(b)
account until the employee:
- Reaches age 59½,
- Has a severance from employment,
- Dies,
- Becomes disabled, or
- In the case of salary reduction contributions,
encounters financial hardship.
In most cases, the payments you receive or that are
made available to you under your 403(b) account are
taxable in full as ordinary income. In general, the same
tax rules apply to distributions from 403(b) plans that
apply to distributions from other retirement plans.
Minimum Required Distributions
You must receive all, or at least a certain minimum, of
your interest accruing after 1986 in the 403(b) plan by
April 1 of the calendar year following the later of the
calendar year in which you become age 70½ or the calendar
year in which you retire.
No Special 10-Year Tax Option
A distribution from a 403(b) plan does not qualify as a
lump-sum distribution. This means you cannot use the
special 10-year tax option to calculate the taxable
portion of a 403(b) distribution.
Transfer of Interest in 403(b)
Contract
If you transfer all or part of your interest from a
403(b) account to another 403(b) account, the transfer is
tax free. This is known as a 90–24 transfer. However, this
treatment applies only if the transferred interest is
subject to the same or stricter distribution restrictions.
This rule applies regardless of whether you are a current
employee, a former employee, or a beneficiary of a former
employee.
Transfers that do not satisfy this rule are plan
distributions and are generally taxable as ordinary income.
Tax-free transfers for certain cash
distributions. A tax-free transfer may also apply to
a cash distribution of your 403(b) account from an
insurance company that is subject to a rehabilitation,
conservatorship, insolvency, or similar state proceeding.
To receive tax-free treatment, you must do all of the
following.
- Withdraw all the cash to which you are entitled in
full settlement of your contract rights or, if less,
the maximum permitted by the state.
- Reinvest the cash distribution in a single policy
or contract issued by another insurance company or in
a single custodial account subject to the same or
stricter distribution restrictions as the original
contract not later than 60 days after you receive the
cash distribution.
- Assign all future distribution rights to the new
contract or account for investment in that contract or
account if you received an amount that is less than
what you are entitled to because of state
restrictions.
In addition to the preceding requirements, you must
provide the new insurer with a written statement
containing all of the following information:
- The gross amount of cash distributed under the old
contract.
- The amount of cash reinvested in the new contract.
- Your investment in the old contract on the date
you receive your first cash distribution.
Also, you must attach the following items to your
timely filed income tax return in the year you receive the
first distribution of cash.
- A copy of the statement you gave the new insurer.
- A statement that includes:
- The words ELECTION
UNDER REV. PROC. 92-44,
- The name of the company that issued the new
contract, and
- The new policy number.
Direct trustee-to-trustee transfer.
If you make a direct trustee-to-trustee transfer, from
your governmental 403(b) account to a defined benefit
governmental plan, it may not be includible in gross
income.
The transfer amount is not includible in gross income
if it is made to:
- Purchase permissive service credits, or
- Repay contributions and earnings that were
previously refunded under a forfeiture of service
credit under the plan, or under another plan
maintained by a state or local government employer
within the same state.
You can generally roll over tax free all or any part of a
distribution from a 403(b) plan to a traditional IRA or an
eligible retirement plan. The most you can roll over is the
amount that, except for the rollover, would be taxable. The
rollover must be completed by the 60th day following the day
on which you receive the distribution.
Hardship exception to rollover rules.
The IRS may waive the 60-day rollover period if the
failure to waive such requirement would be against equity or
good conscience, including cases of casualty, disaster, or
other events beyond the reasonable control of the
individual.
Rollovers to and from 403(b) plans.
You can roll over, tax free, all or any part of a
distribution from an eligible retirement plan to a 403(b)
plan. Additionally, you can roll over, tax free, all or any
part of a distribution from a 403(b) plan to an eligible
retirement plan.
If a distribution includes both pre-tax contributions
and after-tax contributions, the portion of the distribution
that is rolled over is treated as consisting first of
pre-tax amounts (contributions and earnings that would be
includible in income if no rollover occurred). This means
that if you roll over an amount that is at least as much as
the pre-tax portion of the distribution, you do not have to
include any of the distribution in income.
Eligible retirement plans.
The following are considered eligible retirement plans.
- Individual retirement arrangements.
- Qualified retirement plans. (To determine if your
plan is a qualified plan ask your plan administrator.)
- 403(b) plans.
- Government eligible 457 plans.
Nonqualifying distributions.
You cannot roll over tax free:
- Minimum distributions (generally required to begin
at age 70½),
- Substantially equal payments over your life or life
expectancy,
- Substantially equal payments over the joint lives or
life expectancies of your beneficiary and you,
- Substantially equal payments for a period of 10
years or more,
- Hardship distributions, or
- Corrective distributions of excess contributions or
excess deferrals, and any income allocable to the
excess, or excess annual additions and any allocable
gains.
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