403(b) vs. Roth IRA: What’s the Difference?

Both 403(b) plans and Roth IRAs allow you to save for retirement. But 403(b) plans are similar to 401(k) plans in that they’re only available through an employer, you fund them with pre-tax contributions, and they have higher contribution limits than Roth IRAs. (A 403(b) plan can only be offered by certain types of employers, such as schools and nonprofits.) 

On the other hand, Roth IRAs are widely available, and they allow you to contribute after-tax dollars. If you’re fortunate, you might have access to both options, enabling you to set aside a substantial amount of money for your future and potentially maximize your tax savings while you’re at it.

What’s the Difference Between a 403(b) and a Roth IRA?

Availability

A primary difference between 403(b) plans and Roth IRAs is their availability. Only certain types of employers can offer 403(b) plans, and you can only contribute if you have one at your job. If your employer is a public school or 501(c)(3) organization, like a church, they may offer a 403(b) plan.

Roth IRAs are available to anyone with qualifying taxable income. To be eligible, however, your income must fall below specific thresholds set by the IRS.

Contribution Limits

As an employer-sponsored plan, 403(b) plans allow for substantial contributions. You can set aside up to $20,500 of your salary in a 403(b) in 2022 ($22,500 in 2023). If you’re 50 or older, you can make an additional catch-up contribution of $6,500 in 2022 ($7,500 in 2023).

Roth IRAs limit your annual contributions to $6,000 or less in 2022 ($6,500 in 2023), but people age 50 and older can save an additional $1,000 as a catch-up. Depending on your income, your ability to contribute may be reduced—or eliminated. If you make too much money, you won’t be allowed to make Roth contributions.

Employer Matching

In addition to your contributions, your employer might contribute to your 403(b) savings. For example, your employer might match your contributions (up to certain limits), which can significantly boost your annual savings. However, not all employers choose to offer matching, so whether or not you’ll receive this perk depends on where you work.

Since Roth IRAs are not sponsored by employers, there is no matching contribution.

Pre-Tax (Deductible Contributions)?

403(b) plans typically offer the option to make pre-tax contributions from your earnings. By doing so, you can reduce your taxable income for the year, making it easier to afford contributions. However, you generally need to pay taxes on those funds when removing the money from a retirement account. 

Some 403(b) plans also allow you to make after-tax contributions, also known as designated Roth contributions or “Roth 403(b).” If you go that route, you don’t get a tax break today, but you can potentially get tax-free income from those savings during retirement. What’s more, your employer’s plan might allow for additional voluntary after-tax contributions, which might make it possible to use a mega backdoor Roth strategy.

Roth IRAs always allow after-tax savings. You won’t reduce your taxable income with Roth IRA contributions, but you can potentially avoid paying additional taxes on that money—the contributions plus any earnings on your investments in your account—during retirement.

Loans

Some 403(b) plans allow you to borrow from your savings. However, your employer isn’t required to offer loans in its plan. If your employer’s 403(b) plan allows it, you may be able to borrow 50% of your vested account balance (the portion you own) or $50,000, whichever is less. Check with your employer to see if it offers a plan loan option.

Roth IRAs do not allow loans.

When Can You Withdraw Funds?

403(b) plans limit when you can take money out. For example, you may be eligible for a distribution if you leave your job, reach age 59½, become disabled, or qualify based on financial hardship. Otherwise, the funds are tied up in your employer’s plan.

An IRA is an individual retirement account that you have full control over, so you choose when to take withdrawals. Since you’ve already paid taxes on the money you put in, you can withdraw Roth IRA contributions at any time without taxes or penalties. The earnings on your investments, however, are a different story. Depending on your age and how long you’ve had the account, you may have to pay income taxes and a 10% penalty on those withdrawals. 

To qualify for tax-free distributions on investment earnings in a Roth IRA or Roth 403(b), you need to satisfy specific IRS rules. In general, you must have funds in the account for at least five years and wait until you’re 59½ or older to make withdrawals to avoid paying taxes on them. There are also certain provisions for withdrawing the money in the event of your disability or death. However, the rules are complicated, so consider checking with a CPA before taking a distribution.

Investment Options

403(b) plans typically offer a menu of mutual funds and annuities for plan participants to choose from. Those investments may have risk profiles ranging from conservative to aggressive.

Roth IRAs can be opened as brokerage accounts, which allow you to buy and sell stocks, mutual funds, and other types of investments inside them. This gives you access to many more investment options than you might get with an employer plan like a 403(b). Inside an IRA, you can typically have mutual funds, exchange traded funds (ETFs), individual stocks, and other investment vehicles.

Which Is Right For You?

You don’t necessarily need to choose just one. However, each option has unique benefits.

A 403(b) plan is ideal if your employer offers to match your contributions. Even if they don’t, a 403(b) may be right for you if you’d like to save a substantial amount of money each year. The high contribution limits (and additional catch-up option) enable you to save substantially more than a Roth IRA. Plus, you can choose to save pre-tax dollars in a 403(b) if you decide that’s the best option for you.

A Roth IRA is an excellent tool for saving after-tax money. If your employer’s retirement plan doesn’t offer Roth-type savings, an IRA may be your only option. This may be an especially good fit if you plan to save less than the annual contribution limit each year and your income falls below qualifying IRS limits. Plus, if you’re picky about investment options, the flexibility of a Roth IRA could be appealing.

A Best-of-Both Worlds Option

It’s possible to save money in both a 403(b) plan and a Roth IRA. By combining these strategies, you can maximize your savings, leaving you with more resources for your retirement years. Choosing to contribute to one of these accounts does not prevent you from contributing to the other, so feel free to use both whenever possible.

Frequently Asked Questions (FAQs)