403(b) vs. 401(k): What’s the difference in these retirement accounts?

If you’re looking at retirement accounts, then you may come across the 403(b) and the 401(k) plans. Both the 403(b) and 401(k) are among the best retirement plans available, and one key difference between them is relatively simple: the group of workers that is allowed to use them.

Here’s how 403(b) and 401(k) plans work and their major differences.

403(b) vs. 401(k): How they work

Both 403(b) and 401(k) accounts offer workers the ability to save money for retirement on a tax-advantaged basis: in traditional versions of the plans or Roth versions.

• In traditional, pre-tax versions of the 403(b) and 401(k) plans, workers can contribute to the account and avoid tax on their contributions. The money can grow in the account on a tax-deferred basis, and then is taxed only when it comes out of the account. Savers can also invest in potentially high-return assets such as stock funds.
• In Roth versions of the 403(b) and 401(k) plans, workers can contribute to the account with after-tax money. The money can then grow in the account on a tax-free basis, and it can be withdrawn in retirement tax-free as well. As with the traditional versions of these plans, savers can invest in potentially high-return assets such as stock funds.

With the 403(b) and 401(k), your employer may provide matching funds if you contribute to the plan. The employer match can be a great incentive to save since it provides a strong risk-free return on your contributions, and experts routinely advise workers to claim all this “free money.” More 401(k) plans offer a match than do 403(b) plans, for legal reasons explained below.

For example, an employer might match 50 percent of your contribution up to 6 percent of your salary. So if you contribute 6 percent of your paycheck, your company will contribute another 3 percent, and you’ll effectively have saved 9 percent. But if you save 7 percent of your salary, the company will still contribute the same 3 percent, meaning you’ve saved a total of 10 percent.

If there’s a downside to matching, it’s that the funds have to vest, usually over a period of years.

Who can use 403(b) and 401(k) plans?

One key difference between the 403(b) and 401(k) plans is who gets to use each type of plan:

• A 403(b) plan is used for some employees in the public sector, school districts, churches and non-profit organizations and charities.
• A 401(k) plan is used for employees in the private sector such as for-profit companies.

While these plans may be available for each sector, that doesn’t mean that your employer will offer a retirement plan at all.

In addition, employees of the public sector and some tax-exempt organizations may also have access to a supplemental savings plan in the form of the 457(b) account. The 457(b) provides even more opportunities to save and offers some especially advantageous features for workers.

403(b) and 401(k) contribution limits

Both plans have the same limits on what workers can contribute to the plans annually. In 2024 the annual limit on contributions is $23,000 in both 403(b) and 401(k) accounts for those under age 50. Those 50 and older can make catch-up contributions of an incremental $7,500 per year.

However, the 403(b) also offers a special catch-up contribution for workers who have 15 years of service or more with the same employer. Workers may be able to contribute up to $3,000 per year above the normal limits, up to a lifetime total of $15,000, provided they haven’t deferred more than the product of $5,000 times the number of years or service at the organization. Not all 403(b) plans offer this extra catch-up provision for 15 years of service, however.

Any employer match does not count toward the employee’s total annual contribution limit.

Key differences between 403(b) and 401(k) accounts

In many practical respects, participants won’t notice much of a difference between 403(b) plans and 401(k) plans, but technical legal differences do still affect the plans. Here are the key ones:

• 403(b) plans are not subject to nondiscrimination testing: Unlike firms with 401(k)s, those with a 403(b) can avoid annual testing that evaluates whether highly compensated employees are getting too much benefit from the retirement plan, relative to low earners. However, this “perk” disappears if the company offers an employer match.
• Many 403(b) plans don’t offer an employer match: Because employers with a 403(b) are disincentivized to offer a match, they may not do so, to avoid annual testing.
• Investment options can differ markedly: Many 403(b)s may have a narrower selection of investments, focusing on annuities, while 401(k)s may offer more mutual funds and allow the purchase of individual stocks and bonds as well as annuities. Historically, the 403(b) has been run by insurance companies, while fund companies have run 401(k)s.

Despite these differences, the workers participating in these plans may not otherwise notice.

Is a 403(b) plan better than a 401(k) plan?

In most respects 403(b) plans 401(k) plans offer the same benefits, whether that’s the ability to save for retirement in a pre-tax or after-tax account, invest in potentially high-return assets, amass wealth tax-deferred or tax-free and enjoy an employer match on contributions.

However, if there’s a practical difference, many employers offering a 403(b) plan may opt to not offer an employer match because of legal complications surrounding those who offer a match. The lack of a match may make the 403(b) much less attractive as a retirement account.

A 401(k) plan may also offer more investment choices, particularly with regard to potentially high-return investments such as mutual funds, while 403(b)s may offer a narrower selection. But the exact investment selection depends heavily on the company and the plan’s administrator.

Finally, what most distinguishes the 403(b) plan from the 401(k) plan is who has access to each plan. The 403(b) is for school districts, churches, charities and some public-sector employees.

In contrast, the 401(k) is for private-sector employees, such as those working at private firms.

Bottom line

Both 403(b) and 401(k) plans allow workers to save for retirement in a tax-advantaged account. Key differences include which companies can use each type of plan, the investment selection and regulations surrounding nondiscrimination testing and its effects on employer matches.