A 403(b) is a tax-deferred retirement savings program for employees of employees of certain 501(c)(3) non-profit institutions, including hospitals and health care organizations, charitable foundations, religious organizations, scientific and research organizations, educational institutions, and others. Depending on your program, you authorize pre-tax payroll deductions to be invested in a tax-sheltered annuity (TSA) contract or in a custodial account made up of mutual funds offered by your organization. Both the contributions and the investment earnings can grow tax-deferred until withdrawal (assumed to be retirement), at which time they are taxed as ordinary income.

If your organization sponsors a 403(b) program, you choose whether or not you want to participate. If the employer is involved in setting up the program and choosing a financial services vendor or vendors, the program must offer a number of different investment options, which means you get to select your investments based on your own time horizon, risk aversion, and financial risk tolerance.

Employer contributions, which are optional, typically come in the form of what's called a "company match." These can range from 25% to 100% of your contribution to the program, up to a certain limit. Most employers offer this type of contribution--both as an incentive for employees to join the plan and as part of the overall benefits package. Many consider these employer contributions the real attraction of the 403(b) account. In a plan where your employer is matching your contribution at 50 cents on the dollar, you've made an instantaneous 50% return. In most cases, there is automatic vesting of employer contributions.

403(b) programs are often called "401(k)s for non-profits." While this is generally true for most features, there are some differences:

• Employer Involvement. In a 403(b) program, employer involvement is not mandatory (beyond payroll). However, it is mandatory in a 401(k) plan for setting up, administering, and performing discrimination testing on the plan.
• Subject to ERISA regulations. Unlike a 401(k) plan, a 403(b)is only subject to ERISA regulations if there is employer involvement in setting up the program.
• Vesting Schedule. In most cases, vesting is automatic for a 403(b) program, while in most 401(k) plans, vesting occurs over a three to five year period.
• Type of Account. A 403(b) is a Custodial Account, a 401(k) is a Trust.

Maximum Contribution
Determining the maximum contribution limit for a 403(b) account can get complicated. For the 2007 and 2008 tax years, the maximum contribution is the lesser of:

• $15,500 and an extra $5,000 if age 50 or older by the end of the year (and possibly a lifetime catch-up of $3,000 more), or
• up to 100% of compensation (must be less than the elective deferral limit), or
• for those with employer matches, limits are $45,000 for 2007 and $46,000 for 2008, or 100% of compensation (lesser amount).

Distributions taken after age 59-1/2 are subject to the following tax treatment:

• For pre-tax contributions: Both the contributions and the investment earnings are treated as income.
• For after-tax contributions: The contributions are treated as a nontaxable return of capital, but all investment earnings are treated as income.

When you take a withdrawal the plan sponsor may be required to set aside 20% for federal withholding taxes. In most cases, an additional 10% premature withdrawal penalty will also apply for a withdrawal before age 59-1/2. If a plan allows hardship withdrawals, the rules are typically the same as those for 401(k)s.

There are some exceptions to the 10% premature withdrawal penalty, including:

• Disability (as defined by the IRS)
• A separation of service (after age 55 and prior to age 59-1/2)
• If your withdrawal is distributed in the form of "substantially equal payments" made at least annually over your life expectancy or the joint life expectancy of you and your designated beneficiary
• Payments for certain unreimbursed medical expenses under the Internal Revenue Code
• Distributions to alternate payees required through Qualified Domestic Relations Orders (as might be issued in divorce proceedings)

• Roll it over into another 403(b) plan or an IRA
  You don't have to leave your 403(b) behind. You can roll over your account directly into another 403(b) plan or an IRA, called a Rollover (or Conduit) IRA. By doing so, you avoid any penalty or withholding tax. To ensure a direct rollover, be sure that your former 403(b) plan's custodian makes the check directly payable to your IRA's custodian or to your new 403(b) plan's custodian.
• Take a lump sum distribution (full or partial)
  If you decide to take a distribution before age 59-1/2, the financial costs can be steep. In addition to a 10% premature withdrawal penalty, your plan sponsor is required to set aside 20% for federal withholding tax on the amount you don't rollover directly. This is only an estimate of the tax you'll owe on the withdrawal--the actual amount will be determined when you file your taxes.
• Leave it where it is
  If the balance in the account is over a certain amount (currently $5,000), most programs will let you leave it there until age 70-1/2 or actual retirement, whichever is later.

For more information see: IRS Publication 571 which covers the 403(b) retirement plan.