Roth IRA vs 403(b): What’s Best For You?

By MP Dunleavey · January 30, 2022 · 7 minute read

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Roth IRA vs 403(b): What’s Best For You?

It’s true that 403(b) and Roth IRA accounts are both tax-advantaged retirement plans, but they are quite different — especially regarding the amount you can contribute annually, and the tax implications for each.

Generally speaking, a 403(b) allows you to save more, and your taxable income is reduced by the amount you contribute to the plan (potentially lowering your tax bill). A Roth IRA has much lower contribution limits, but because you’re saving after-tax money, it grows tax free — and you don’t pay taxes on the withdrawals.

In some cases, you may not need to choose between a Roth IRA vs. a 403(b) — the best choice may be to contribute to both types of accounts. In order to decide, it’s important to consider how these accounts are structured and what the rules are for each.

Comparing Roth IRA vs 403b Accounts

A 403(b) account is actually quite similar to a 401(k), as both are tax-deferred types of retirement plans and have similar contribution limits. A Roth IRA, though, follows a very different set of rules.

What is a 403(b)?

Similar to a 401(k), a 403(b) retirement plan is a tax-deferred account sponsored by an individual’s employer. An individual may contribute a portion of their salary and may also receive so-called matching contributions from their employer.

An employee’s contributions are deducted and deposited in the 403(b) pre-tax, where they grow tax-free, until retirement (which is why these accounts are called “tax deferred”). Individuals then withdraw the funds, and pay ordinary income tax at their current rate. But although 403(b) accounts share some features with 401(k)s, there are some distinctions.

Eligibility

The main difference between 403(b) and 401(k) accounts is that 401(k)s are offered by for-profit businesses and 403(b)s are only available to employees of:

•   Employees of public schools, including public colleges and universities

•   Churches or associations of churches

•   Tax-exempt 501(c)(3) charitable organizations

Early withdrawals

Typically, individuals face a 10% penalty if they withdraw their money before age 59 ½. Exceptions apply in some circumstances. Be sure to consult with your plan sponsor about the rules that apply.

Contribution limits and rules

There are also some different contribution rules for 403(b) accounts. The cap for 2021 and 2022 is the same as it is for a 401(k): $19,500 for 2021, and $20,500 for 2022. And if you’re 50 or older you can also make an additional catch-up contribution of up to $6,500.

In the case of a 403(b), though, participants with at least 15 years of service with their employer can make another catch-up contribution above the annual limit, as long as it’s the lesser of the following options:

•   $15,000, reduced by the amount of employee contributions made in prior years

•   $5,000, times the number of years of service, minus the employee’s total contributions from previous years

•   $3,000

The wrinkle here is that if you’re over 50, and you have at least 15 years of service, you must do the 15-year catch-up contribution first, before you can take advantage of the 50-plus catch-up contribution of up to $6,500.

What is a Roth IRA?

Roth IRAs are different from tax-deferred accounts like 403(b)s, 401(k)s, and other types of retirement accounts. With all types of Roth accounts — including a Roth 401(k) and a Roth 403(b) — you contribute after-tax money. And when you withdraw the money in retirement, it’s tax free.

Eligibility

Unlike employer-sponsored retirement plans, Roth IRAs fall under the IRS category of “Individual Retirement Arrangements,” and thus are set up and managed by the individual. Thus, anyone with earned income can open a Roth IRA through a bank, brokerage, or other financial institution that offers them.

Contribution limits and rules

Your ability to contribute to a Roth, however, is limited by your income level.

•   For 2021, if you’re married filing jointly, you can contribute the maximum to a Roth if your modified adjusted gross income (MAGI) is less than $198,000. If your income is between $198,000 and $208,000 you can contribute a reduced amount.

•   For 2022, those limits are 204,000 to 214,000 for those married filing jointly.

•   For single filers in 2021, your income must be less than $125,000 to contribute the maximum to a Roth, with reduced contributions up to $140,000.

•   For 2022, the band is $129,000 to $144,000 for single filers.

Roth 403(b) vs Roth IRA: Are They the Same?

No. A Roth 403(b) does adhere to the familiar Roth structure — the individual makes after-tax contributions, and withdraws their money tax free in retirement — but otherwise these accounts are similar to regular 403(b)s.

•   The annual contribution limits are the same: $19,500 with a catch-up contribution of $6,500 for those 50 and older for 2021. For 2022, the limit is $20,500 (the catch-up contribution is the same, at $6,500).

•   There are no income limits for Roth 403(b) accounts.

Also, a Roth 403(b) is like a Roth 401(k) in that both these accounts are subject to required minimum distribution rules (RMDs), whereas a regular Roth IRA does not have RMDs.

One possible workaround: You may be able to rollover a Roth 403(b)/401(k) to a Roth IRA — similar to the process of rolling over a regular 401(k) to a traditional IRA when you leave your job or retire — and thus your nest egg wouldn’t be subject to 401(k) RMD rules.

Last, another similarity between Roth 403(b) and 401(k) accounts: Even though the money you deposit is after tax, any employer matching contributions are not; they’re typically made on a pre-tax basis. So, you must pay taxes on those matching contributions and earnings when taking retirement withdrawals. (It sounds like a headache, but your employer deposits those contributions in a separate account, so it’s relatively straightforward to know which withdrawals are tax free and which require you to pay taxes.)

Which Is Better, a 403(b) or Roth IRA?

It’s not a matter of which is “better” — as discussed above, the accounts are quite different. Deciding which one to use, or whether to combine both as part of your plan, boils down to your tax and withdrawal strategies for your retirement.

To make an informed decision about which retirement plan is right for you, it can be helpful to conduct a side-by-side comparison of both plans. This chart breaks down some of the main differences, giving you a better understanding of these types of retirement plans, so that you can weigh the pros and cons of a Roth IRA vs. 403(b).

403(b) Roth IRA

Who can participate? Employees of the following types of organizations:

•   Public school systems, if involved in day-to-day operations

•   Public schools operated by Indian tribal governments

•   Cooperative hospitals and

•   Civilian employees of the Uniformed Services University of the Health Sciences

•   Certain ministers and chaplains

•   Tax-exempt charities established under IRC Section 501(c)(3)

•   Individuals earning less than the following amounts:

•   Single filers earning less than $140,000 for 2021 and less than $144,000 for 2022

•   Married joint filers earning less than $208,000 for 2021 and $214,000 for 2022

Are contributions tax deductible? Yes No
Are qualified distributions taxed? Yes No (if not qualified, distribution may be taxable in part)
Annual individual contribution limit $19,500 for 2021 and $20,500 for 2022 (plus catch-up contributions up to $6,500 for those age 50 and older) The lesser of:

•   $6,000 (individuals 50 and older may contribute $7,000) or

•   Total annual compensation

Are early withdrawals allowed? Depends on individual plan terms and may be subject to a 10% penalty Yes, though account earnings may be subject to a 10% penalty if funds are withdrawn before account owner is 59 ½
Plan administered by Employer The individual’s chosen financial institution
Investment options Employee chooses based on investments available through the plan Up to the individual, though certain types of investments (collectibles, life insurance) are prohibited
Fees Varies depending on plan terms and investments Varies depending on financial institution and investments
Portability As with other employee-sponsored plans, individual must roll their account into another fund or cash out when switching employers Yes
Subject to RMD rules Yes No

Potential Benefits of a 403(b) and a Roth IRA

There are positives to both a 403(b) and a Roth IRA — and because it’s possible for qualified individuals to open a Roth IRA and a 403(b), some people may decide that their best strategy is to use both.

Pros of 403(b)

•   Contributions are automatically deducted by an employer from the individual’s paycheck, which can make it easier to save.

•   If an individual earns less money annually in retirement than during their working years, deferring taxes may mean they ultimately pay less in taxes.

•   Some employers offer matching contributions, meaning for every dollar an employee contributes, the employer may match some or all of it, up to a certain percentage.

•   Higher annual contribution limit than a Roth IRA.

Pros of Roth IRAs

•   Individuals can invest with any financial institution and thus will have many more investment options when opening up their Roth IRA.

•   Withdrawal of contributions are not taxed; withdrawal of earnings are not taxed under certain conditions and/or after age 59 ½.

•   Account belongs to the owner and is not affected if the individual changes jobs.

Because these two accounts are complementary in some ways (one being tax-deferred, the other not), it’s possible to fund both as long as you don’t exceed contribution limits for either account.

The Takeaway

So when considering whether to fund a 403(b) account or a Roth IRA, there’s no right choice, per se — the correct answer boils down to which approach works for you. You might prefer the automatic payroll deductions, the ability to save more, and, if it applies, the employer match of a 403(b).

Or you might gravitate toward the more independent setup of your own Roth IRA, where you have a wider array of investment options and greater flexibility around withdrawals (Roth contributions can be withdrawn at any time, although earnings can’t).

Or it might come down to your tax strategy: It may be more important for you to save in a 403(b), and reduce your taxable income in the present. Conversely, you may want to contribute to a Roth IRA, despite the lower contribution limit, because withdrawals are tax free in retirement.

Really, though, it’s possible to have the best of both worlds by investing in both types of accounts, as long as you don’t exceed the annual contribution limits. You can even open an account with SoFi Invest® and set up a Roth IRA online today. SoFi doesn’t charge commission, and SoFi Members have access to complimentary advice from financial professionals who can answer any of your investing questions.

Find out how Sofi Invest can help you plan for retirement.


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