Question: I work for a hospital and have recently found out that I am eligible for their retirement plan. I have a choice between a 403(b) and a 403(b)(7). I have no idea what the difference is and was hoping you could tell me what type of plan to use and how to go about signing up. Lorraine – Colorado
Answer: The plans you are referring to are generally reserved for specific types of employers including many hospitals, public schools, and non-profit organizations (501(c)(3)). These plans are a form of life insurance annuity commonly referred to as Tax Sheltered Annuities (TSAs) or Tax Deferred Annuities (TDAs), and these plans allow employees to defer a portion of their salary and deposit it into a tax-deferred account until retirement. As long as the employer agrees to deduct a specific portion of the employee’s paycheck pre-tax and send it to the proper institution, then any number of employees can participate. One of the most attractive features of this type of plan is that it doesn’t have to be formally administered for the employees to participate. This is important because the reason many employers don’t offer a retirement plan to their employees is due to the high cost of administration. Although retirement plans have become much less expensive than in years past, cost still seems to be a deterring factor for many employers who decide not to offer a corporate retirement plan.
Regarding the difference between a 403(b) and a 403(b)(7), they are simply two tax codes that designate different investment vehicles within the same type of plan. While this type of life insurance annuity plan was first created in 1958, participants could only invest in them via a 403(b). Since the inception of the Employee Retirement Income Security Act of 1974, participants can defer a portion of their salary into mutual funds utilizing a 403(b)(7). Your choice is this; do you want to invest in annuities or mutual funds? Each choice has unique characteristics. Since annuities are insurance contracts, they often have specific guarantees that are not available with mutual funds. However, you pay for these guarantees in the form of fees. According to Morningstar, the average annuity charges more than 2% in annual fees compared to the typical 1.5% fees associated with a mutual fund. Some mutual funds even charge substantially less. Does this mean that mutual funds are always better? Not necessarily! It really depends on the needs and objectives of the individual investor.
With respect to enrolling in the existing life insurance annuity plan with your employer, the human resources or payroll department should have all the information necessary to get you started. Begin by locating a list of approved vendors. This list should include annuity sponsors and mutual funds that are pre-approved for your particular plan. You may want to seek professional advice to help you through the process. If you choose to do it yourself, you might find it difficult to get investment advice from your employer since this places them in a position of liability if they are not properly licensed. Most employers will not offer specific advice for this reason. In either event, two sets of paperwork will need to be completed. The first will be paperwork that authorizes and specifies the amounts that you will defer from each paycheck. This paperwork will be returned to your employer. The second set will be the application for the annuities or mutual funds that you have selected. This set of paperwork will be returned to the life insurance annuity or mutual fund company. Although it may take some effort, enrolling in your salary deferral plan can be tremendously rewarding. Enjoy life!