As a small business owner and as someone who has been working with businesses and nonprofit organizations for over a decade, I realize what I’m about to ask may be difficult to do with everything happening around us. I ask that let’s get our mind off of the pandemic for just a bit and talk about something that’s not related to COVID-19, shall we? As Warren Buffet said recently, “We’ve faced tougher problems, and the American miracle, the American magic, has always prevailed.”

Just for fun, let’s talk about 401(k) and 403(b) plans. These two types of employer-sponsored retirement plans have the same purpose: to help hard-working American workers save for their golden years. And although the goal is identical, when we dig deeper, we can see that they are, in many ways, different as well as similar. How can that be you ask? Great question. Let’s dive right in.

What are some key similarities between 401(k) and 403(b) plans?

• The contribution limits are same for the most part. For 2020, an employee can contribute $19,500 and an additional $6,500 if he is over age 50. The maximum limit for an individual is $57,000, or $63,500 if age 50. Both plans can allow Roth in addition to traditional pre-tax contributions.
• Both plans can allow participant loans. The maximum loan is the lesser of $50,000 or 50% of the participant’s vested account balance.
• Both plans allow rollovers to be made to another employer’s plan or an IRA.

What are some key differences between 401(k) and 403(b) plans?

• While both businesses and nonprofit organizations can sponsor a 401(k), a 403(b) can only be sponsored by a public educational institution or an Internal Revenue Service Code Section 501(c)(3) organization.
• When it comes to investments, 403(b) plans are limited to annuities and mutual funds. However, 401(k) plans have unlimited range of investments they can offer.
• Average Deferral Percentage (ADP) testing is not required for 403(b) plans. This is one of the bigger advantages of 403(b) plans that is not freely available to other plans. Getting a free pass on the ADP testing can do wonders when the organization has a lot of highly-compensated employees (HCEs), as it does not restrict how much each HCE can contribute to the plan.
• Finally, 403(b) plans must meet the Universal Availability rule, which requires all employees be given the opportunity to make salary deferrals unless the plan specifically excludes a permitted category of employees. “Part-time” employees aren’t a permitted category that may be excluded, but employees who normally work fewer than 20 hours per week are. The plan may, however, put eligibility requirements, such as 1 year of service, on employer contributions, including match.

Final words
At some point in the future, we foresee these two types of plans converging, meaning there will not be much disparity between them. In the meantime, if you’re a non-profit organization and have a 401(k) plan, you should be asking the question, “Why do we not have a 403(b) plan instead?”

For a comprehensive listing of 401(k) and 403(b) variances and resemblances, download our comparative chart: 401(k) And 403b Comparison – NESA (May 2020)