Understanding Recent Changes to Tax Sheltered Annuities

Article Highlights:

Key Benefits
Contribution Limits for 2025
Elective Deferral Limit
Catch-up Contributions
Combined Contribution Limits
Avoiding Common Pitfalls
Distribution and Rollover Rules
Loans and Hardship Distributions
Special Considerations

A 403(b) plan, also known as a tax-sheltered annuity, is a retirement savings program that many tax-exempt organizations and public education institutions offer to their employees. These plans are designed to supplement retirement income through pre-tax contributions from earnings.

Key Benefits

Tax Deferral: Contributions made to a 403(b) plan reduce your taxable income for the year the contribution is made.
Portability: These plans can often be rolled over into other eligible retirement accounts, such as an IRA or another 403(b).

Elective Deferral Limit

For 2025, the maximum amount you can elect to defer from your salary into a 403(b) plan without considering any catch-up contributions is $23,500.

Catch-up Contributions

Age-50 Catch-up Contributions: If you are 50 years of age or older, you can make additional catch-up contributions. In 2025, this amount is $7,500. The aged-basis catch-up contribution is $11,250 if you are age 60, 61, 62 or 63 by the end of 2025.
15-Year-of-Service Additional Contributions: For certain employees with at least 15 years of service with specific eligible employers (such as schools, hospitals and churches), additional contributions are possible within certain limits, potentially allowing an additional contribution of up to $3,000 per year.

Combined Contribution Limits

Annual contributions to all an employee's retirement accounts — including elective deferrals, employee contributions, employer matching and discretionary contributions — may not exceed the lesser of 100% of the employee's compensation or for 2025 $70,000.

Mandatory Roth Contributions

Recent legislation provides that effective January 1, 2026, all catch-up contributions, if the participant's Social Security wages for the prior year exceeded $145,000, must be designated Roth contributions.

Avoiding Common Pitfalls

Universal Availability: If your 403(b) plan allows elective deferrals, it must offer the same opportunity to all eligible employees.
Exceeding Contribution Limits: Recognize both the age-50 and the 15-year-of-service catch-up limits and ensure contributions do not surpass these thresholds.
Proper Deferral Handling: Employers must deposit your elective deferrals promptly within specified timeframes.

Distribution and Rollover Rules

Distributions from a 403(b) plan generally occur when you retire, reach age 59½, or face other qualifying events. Early distributions may incur a 10% penalty tax unless exceptions apply.

Participants can roll over eligible distributions to other 403(b) plans, 457(b) plans, or IRAs, providing extensive flexibility.

Loans and Hardship Distributions

Participants may face situations where accessing funds is necessary. Loans from your 403(b) plan can be an option. Hardship distributions are also available under strict IRS guidelines for immediate, heavy financial needs.

403(b) plans are a robust avenue for retirement savings, providing significant tax advantages and flexibility. With the adjustments to contribution limits in 2025, it's imperative for participants to remain informed and proactive in maximizing these benefits.