Family, Home, and Job: Make the Most of Nonprofit Retirement Plans

Working for a nonprofit or in education often comes with a lot of personal satisfaction, but it’s also important to make the most of your retirement options. Many employees in nonprofit organizations or schools have access to retirement plans like 403(b) and 457 plans, which can offer significant tax-saving opportunities. If you’re looking for ways to grow your retirement savings and reduce your tax burden, these plans are great tools to consider.

In this article, we’re going to break down how these nonprofit retirement plans work, how they differ from traditional 401(k)s, and how you can maximize the benefits to save money on your taxes. Even if you don’t know much about retirement accounts or tax planning, I’m here to explain it in simple terms. I’ve worked with many clients in similar situations, and the strategies we used helped them put more money toward their future while saving on taxes.

What Are 403(b) and 457 Plans?

Let’s start with the basics. If you work for a nonprofit organization, a public school, or a government entity, you likely have access to either a 403(b) or a 457 plan.

- A 403(b) plan is a retirement plan specifically for employees of public schools and nonprofit organizations. It’s very similar to a 401(k) plan in that you can contribute a portion of your salary to the plan on a tax-deferred basis, meaning you don’t pay taxes on the money until you withdraw it in retirement.

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- A 457 plan is another type of retirement savings plan available to employees of nonprofits and government agencies. The big difference between a 457 plan and a 403(b) is how they handle withdrawals, which we’ll cover in more detail shortly.

Both of these plans allow you to save for retirement while lowering your taxable income today. That means you can get tax breaks now while saving money for your future.

Maximizing Your Contributions

Just like with a 401(k), there are limits to how much you can contribute to a 403(b) or 457 plan each year. For 2023, you can contribute up to $22,500 in salary deferrals (or $30,000 if you’re 50 or older). That’s a great start, but many people don’t realize that you can save even more than that!

Here’s how it works: If your employer offers matching contributions or profit-sharing options, those contributions go on top of your own. You can actually reach a total contribution limit of up to $66,000 (including both employee and employer contributions). This allows you to build your retirement savings much faster than you might think.

If you’re 50 or older, you also get the option to make additional “catch-up” contributions. For nonprofit workers who are trying to boost their retirement savings in the years leading up to retirement, this is a great opportunity to make up for lost time.

Traditional or Roth? Choosing Your Tax Strategy

Many nonprofit retirement plans now offer a Roth option. This means you can choose whether you want to make traditional tax-deferred contributions (which lower your taxes today but are taxed when you withdraw) or Roth contributions (which don’t give you a tax break today but allow tax-free withdrawals in retirement).

Which one should you choose? It depends on your situation.?

- If you think your tax rate will be lower in retirement than it is today, it might make sense to choose traditional tax-deferred contributions. This way, you’ll get the tax savings when your income is higher.

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- On the other hand, if you expect your tax rate to be higher in retirement or you prefer to lock in tax-free income later, you might want to go with the Roth option.

Many clients I’ve worked with have taken advantage of both strategies by splitting their contributions between traditional and Roth accounts. This gives them more flexibility when it’s time to retire and start withdrawing from their savings.

Example: Making the Most of a Nonprofit Retirement Plan

Let’s look at an example to make this more tangible. Imagine you work for a public school and contribute $18,000 to your 403(b) plan this year. Your employer matches $6,000 in contributions, bringing your total contributions to $24,000. But what if your employer also offers a profit-sharing plan that contributes another $10,000?

With the annual limit set at $66,000, you still have room to contribute more. Depending on your plan, you might be able to make additional nondeductible contributions to maximize your savings. If you’re 50 or older, you can also add $7,500 in catch-up contributions, which boosts your retirement savings even more.

Over the years, I’ve seen clients significantly boost their retirement savings by being proactive about maximizing these contribution limits. It can be easy to overlook this if you’re focused on day-to-day expenses, but a little extra effort now can pay off big time when it’s time to retire.

Understanding the Saver’s Credit

Here’s another tax-saving tip: If your income qualifies, your contributions to a 403(b) plan may also make you eligible for the Saver’s Credit. This is a nonrefundable tax credit designed to encourage low- and moderate-income individuals to save for retirement.

Depending on your income level and filing status, you can claim a credit for up to 50% of your retirement contributions, up to a maximum of $1,000 (or $2,000 for joint filers). If you qualify, this can be a great way to reduce your tax bill and increase your retirement savings at the same time.

For example, if your income falls under the limits (which for 2023 is $43,500 for joint filers), and you contribute $2,000 to your 403(b) plan, you might qualify for a credit of up to $1,000. That’s like getting free money for saving for your future!

Watch Out for Pitfalls

While nonprofit retirement plans offer many advantages, there are a few things you need to watch out for to avoid costly mistakes.

- Plan loans: Some 403(b) and 457 plans allow you to borrow money from your account in the form of a loan. While this can be convenient if you need quick access to cash, you’ll have to repay the loan with after-tax dollars, and the interest isn’t deductible. Plus, if you leave your job before the loan is repaid, the unpaid balance may become taxable income.?

- Hardship withdrawals: If your plan allows it, you may be able to take a hardship withdrawal for certain financial needs, like medical bills or a down payment on a home. However, hardship withdrawals come with limitations, and you’ll need to pay taxes on the amount you withdraw. You’ll also be barred from making contributions to the plan for 12 months after the withdrawal.

Understanding these potential pitfalls can help you avoid unnecessary taxes and penalties while still making the most of your retirement plan.

Rollover Options and Future Flexibility

One of the great things about both 403(b) and 457 plans is that they allow you to roll over your retirement savings into another qualified plan, like a traditional IRA or Roth IRA, when you retire or leave your job. This gives you flexibility in managing your retirement savings, especially if you’re looking for tax-free growth through a Roth IRA.

A client I worked with recently decided to roll her 403(b) balance into a Roth IRA after retiring from a nonprofit job. By doing this, she was able to take advantage of tax-free growth for her future withdrawals, which was a key part of her retirement strategy.

Action Items for You

To make the most of your nonprofit retirement plan and save money on taxes:

1. Maximize your contributions: Contribute as much as possible to your 403(b) or 457 plan, especially if your employer offers a matching contribution.

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2. Check if your plan offers a Roth option: Consider whether it makes sense for you to make Roth contributions, which could give you tax-free withdrawals in retirement.

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3. Look into the Saver’s Credit: If you qualify based on your income, this credit could help you save even more on your taxes.

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4. Avoid costly mistakes: Be careful when taking loans or hardship withdrawals from your plan, and consider consulting a tax professional before making these moves.

If you would like some help with your tax situation, you can set up a call with me here:? https://calendly.com/pedenaccounting/30min

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