Barbara O'Neill: Managing a 403(b) Over Time
March 21, 2023
By Barbara O'Neill, CFP®, AFC®
403(b) plans are not a static investment. Case in point: I have had a 403(b) for 35+ years and a lot has changed with respect to tax laws, tax rates, market performance, and the growth of my account. Also, I got a late start. Someone who starts a 403(b) at age 22 and lives to 97 could be a plan participant for 75 years!
What to do? Take the time to periodically review and readjust your 403(b) and think ahead about future decisions and challenges. Taken together, time-sensitive 403(b) touchpoints can be referred to as the ten Rs: Record-keeping, Returns, Rebalancing, Rollovers, Reweighting, Retirement, Required beginning date (RBD), Required minimum distributions (RMDs), Risk tolerance, and Relationships.
All ten Rs are interrelated. For example, as 403(b) investments earn market returns, a participant’s portfolio will need to be rebalanced and, over time, perhaps reweighted (i.e., less stock) if their risk tolerance changes. In addition, as plan participants enter retirement, they will need to think about their RBD and the income tax impact of RMDs. Changed relationships (e.g., widowhood) can also affect 403(b) taxation.
This post briefly describes each of the ten Rs that can affect 403(b) plan participation over time. Research results, three “need to know” facts, and six take-away action steps conclude this discussion.
Record Keeping
Good records are important for tax purposes (e.g., to verify tax-deductible 403(b) deposits) and to analyze the performance of investments over time. These records can be in print and/or digital format. Record-keeping begins on Day 1 by saving a copy of the application completed to open a 403(b) account. This application includes the name(s) of one or more beneficiaries and contingent beneficiaries.
Save year-end account statements and shred/delete quarterly statements that came before. Retain the annual summaries for as long as an account is open (often the remainder of someone’s life) and share their location with trusted parties (e.g., executor). Also save the most recent prospectus and annual report, 403(b) annuity contracts, and key correspondence from the plan custodian (e.g., changes in asset allocation or beneficiaries).
Returns
The total return on investments in 403(b) plans is the income earned from dividends and interest plus capital gains (i.e., increase in market value). On a year-to-year basis, account balances can fluctuate widely and experience sharp, often unpredictable, price changes (i.e., volatility). What counts most, however, is long-term performance compared to average stock market returns over the past 3, 5, 10, and 20 years.
Market performance is measured by benchmark indexes such as the S&P 500, which tracks 500 large U.S. company stocks. In down markets, investments that have lower losses than market indexes could still be considered as outperforming others. Another key factor in 403(b) plan returns is fees. Higher fees, as measured by the expense ratio of investments, results in lower accumulated assets.
Rebalancing
It is important to periodically review 403(b) asset class percentages (e.g., 60% stocks, 20% bonds, 10% real estate, and 10% cash) and rebalance when necessary. Asset weights shift over time from market fluctuations. Plan providers typically provide asset class weights on account statements and some offer optional automatic portfolio rebalancing so plan participants can conveniently maintain their asset allocation weights.
Rebalancing means returning to your original asset class weightings by either selling securities in an over-weighted asset class (e.g., stock) or putting new deposits into an under-weighted asset class (e.g., bonds). When rebalancing is done within a tax-deferred 403(b) account, security sales are not a taxable event.
Rollovers
Most workers do not stay with the same employer throughout their entire career. They change employers and, sometimes, industry sectors. Three options for money held in a former employer’s 403(b) are:
- Leave assets in a former employer’s 403(b) for continued tax-deferred growth if the old plan allows.
- Roll over (transfer) assets to a new employer’s tax-deferred savings plan if the new plan allows.
- Roll over the assets into an individual retirement account (IRA) to maintain its tax-advantaged status.
Reweighting
As 403(b) participants get older, they often change their asset allocation and become more conservative (i.e., less stock in portfolio). A common age-related guideline is 100 (conservative), 110 (moderate), or 120 (aggressive) minus age as a recommended stock percentage weighting. For example, 110 – 50 (age) = 60% stock allocation and 110-75 (age) = 35% stock allocation.
Age-based asset allocations should be reviewed every 5-10 years. Factors to consider include personal investment risk tolerance, investment experience, and access to guaranteed income sources; e.g., annuities and/or a pension. When people have a stable income source and do not need to live off invested assets, they may decide to allocate a higher percentage of their 403(b) to stocks.
Benefits of account rollovers include ease of management from account consolidation, tax savings (versus cashing out savings and paying taxes), and access to better investment options versus a former 403(b).
Retirement
Once retirement occurs, 403(b) participants no longer make payroll contributions to their account and the only growth that occurs is through market performance. Some participants may have up to 20 years between retirement with pension benefits at 55 and the start RMDs at age 73 or 75. During this time, account balances will fluctuate. Once age 59 ½ is reached, there is no 10% penalty charged to make account withdrawals
Required Beginning Date
The required beginning date (RBD), April 1 of the year following the year that RMD age is reached (see below), applies to a taxpayer’s first required withdrawal from a 403(b) account. It also applies to a current employer’s 403(b) account for those working beyond RMD starting age. Under the “still working exception,” if a 403(b) plan allows it, the RBD is April 1 of the year after separation from service.
Required Minimum Distributions
Required minimum distributions are mandatory withdrawals from 403(b)s, traditional IRAs, and other tax-deferred accounts starting at the following ages:
Year of Birth |
Starting Age for RMDs |
|---|---|
| 1950 or earlier | Age 72 or 70.5 if age 70.5 before 1/1/20 |
| 1951-1959 | Age 73 |
| 1960 or later | Age 75 |
Risk Tolerance
As noted above, an investor’s risk tolerance can shift over time and become more conservative. Reasons include a shorter time horizon to invest and greater emphasis on generating income versus growth. This does not mean older adults should automatically sell all their stocks and “cash out.” They could live for decades beyond their 65th birthday. Take this 13-question survey to self-assess your investment risk tolerance.
Relationships
Changes in personal relationships can also affect 403(b) plans over time. Think marriage, divorce, widowhood, remarriage, and the death of a primary beneficiary. Paperwork must be redone to address these changes. Otherwise, an ex-spouse could receive 403(b) assets or assets could be turned over to a deceased participant’s estate and subject to probate delays and expenses.
Research Results
A 2022 study by the U.S. Government Accountability Office found a wide range in 403(b) plan fees from 0.01% to 2.37% of assets. Larger plan sponsors reported taking steps to reduce fees while smaller sponsors more often reported not having information needed to monitor fees. Even seemingly small fees can significantly erode retirement savings over time.
Three (More) Things
- Dollar-cost averaging (i.e., buying equal amounts of investments at regular time intervals, such as deposits into a 403(b) every payday), results in a gradual, but steady, buildup of savings.
- Since earnings on a pre-tax 403(b) plan grow tax-deferred until withdrawal, they should generally build a larger nest egg than earnings on a taxable account.
- RMDs gradually increase over time as the age-based divisors for life expectancy decrease by approximately a factor of 1. The percentage of portfolio withdrawn is 3.7% at age 73 and 8.2% by age 90.
Six Smart Strategies
No. 1: Invest Early and Often — Remember that the return on 403(b) accounts is determined by where someone invests (e.g., low-cost vendors), the type of investments selected, and how long compound interest is left to work its magic.
No. 2: Borrow Only for Emergencies — Consider 403(b)s as a long-term retirement account- not a source of quick cash. Take loans vs. hardship withdrawals, if possible, but only for true emergencies. Even repaying loans results in loss of compounding.
No. 3: Get Information Early — Reach out for answers to post-work 403(b) questions well before retirement and RMD age. Sources of assistance include employer HR offices, certified financial planner® professionals, tax preparers, and account custodians.
No. 4: Consider Working After Retirement — Make a financial plan for years in between the end of a primary career, receipt of Social Security, and the start of RMDs. Continuing to work can provide needed income, health insurance, and other benefits.
No. 5: Hedge Your Bets — Consider placing retirement savings in both traditional (pre-tax) and Roth (after-tax) accounts because it is impossible to know your future income at age 73 or 75 or what future federal/state income tax rates will be.
No. 6: Get Help With RMDs — Seek help with your first RMD, if you have questions. For example, if you need money for living expenses, you might take monthly withdrawals from your 403(b) vs. annual withdrawals for others.
In Summary
As 403(b) participants get older and “life happens,” their financial plans must adjust accordingly. Keep the ten Rs in mind as your 403(b) matures along with you.
This post provides general personal finance information and does not address all the variables that apply to an individual’s unique situation. It should not be construed as legal or financial advice. If professional assistance is required, the services of a competent professional should be sought.
...
Dr. O'Neill is the owner/CEO of Money Talk: Financial Planning Seminars and Publications where she writes, speaks, and reviews content about personal finance. She is a Distinguished Professor Emeritus at Rutgers University and a long-time 403(b) plan participant.