403b vs Roth IRA?

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Lugnut85

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I'm trying to figure out the tax consequences of decisions made by my previous financial advisor. Right now, I’m making Roth contributions to a 403(b) that guarantees a 3% return. From what I understand, unlike a Roth IRA, earnings on Roth 403(b) contributions will be taxed as ordinary income when withdrawn and are also subject to required minimum distributions (RMDs).

Is there a way to roll my Roth 403(b) contributions into a Roth IRA now? I’ve read this might be possible at age 59 ½, but if I wait until then, will the earnings still be taxed at that point?

I’m wondering if it would make more sense to contribute pre-tax money to this account and benefit from tax-deferred growth instead. Another option might be putting post-tax money into an IRA, then converting it to a Roth IRA through the backdoor, which could help me avoid RMDs while paying taxes on the earnings.

I’m 39 now and hope to retire between 60 and 65. Any advice or insights would be really helpful!
 
Welcome to the forum!

I believe the part about being 'taxed as ordinary income' might be incorrect if this is actually a Roth 403(b).

However, you could still face RMDs while the money stays in the 403(b). To avoid that, you might consider rolling the Roth 403(b) funds into your own Roth IRA after you retire.

You can find more details about 403(b) accounts here: Bogleheads Wiki on 403(b).
 
Welcome to the forum—it’s great to have you here!

As Yaggle4Z mentioned earlier, withdrawals from a Roth 403(b) are subject to RMDs. However, you can avoid this entirely by rolling the Roth 403(b) into a Roth IRA when you retire or leave your job. At that point, Roth IRA rules will apply.

If you withdraw from the Roth IRA before age 59½, the earnings portion would be taxed as ordinary income. But withdrawals from a Roth IRA are considered to come from your contributions first. This means you’d either need to make a very large withdrawal that exceeds all your contributions or it would take a long time before you even touch the earnings portion. Once you hit age 59½, everything becomes tax-free.

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Now, about the second part of your question—this is where it gets tricky. What’s your current income and tax-filing status? Roth 403(b) contributions might be a good fit, or they might not be.

If you’re in the 12% tax bracket, Roth contributions are usually a smart choice. They might also make sense if you’re at the lower end of the 22% tax bracket and live in a state with income taxes. If you’re in a no-income-tax state, they could still be a good option for the entire 22% bracket.

For most people outside of these scenarios, Roth contributions to a workplace plan aren’t ideal.

Would you be open to sharing more details about your financial situation using the 'Asking Portfolio Questions' format? It’ll help us give better advice!
 
According to the Secure Act 2.0, starting in 2024, RMDs will no longer be required from Roth accounts in qualified employer plans, like a 403(b).

This Bogleheads wiki page could be useful when deciding between Roth or Traditional plan contributions:
Traditional versus Roth
 
Lugnut99 said:
Wow, that really changes things! Thanks for sharing!
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This is good news, but you might still want to consider rolling the 403(b) money into a Roth IRA when you retire.

The main reason is the fees in the 403(b) plan. Workplace plans sometimes offer mutual funds with higher expense ratios, and the plan administrator might charge fees for things like periodic withdrawals.
 
Yaggle4Z said:
This is good news, but you might still want to consider rolling the 403(b) money into a Roth IRA when you retire.

The main reason is the fees in the 403(b) plan. Workplace plans sometimes offer mutual funds with higher expense ratios, and the plan administrator might charge fees for things like periodic withdrawals.
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OP should check with their 403(b) plan about fees, including account fees, transaction costs, and the expense ratios of the available funds.

In some cases, a 403(b) might offer institutional share class funds with lower expense ratios than what an individual could buy on their own.

So, as is often the case, the answer is a bit tricky and depends on the specifics.
 
I’m likely in the 24% tax bracket for 2024. I work for the state and have a pension plan, and since Texas has no state income tax, that's a bonus. My husband and I have maxed out all our tax-advantaged retirement options (except for this one). I currently contribute $20,500 per year, and I have the option to switch these contributions to pre-tax.

Given that I can’t roll over this account until I’m 59.5 without penalty, and considering that the new Secure Act 2.0 means I won’t have to take RMDs from Roth contributions to my 403(b), I’m weighing my options for future contributions. Which will help me the most, especially since the account is only earning 3%?

  1. Continue making Roth contributions. When I’m 59 ½, roll over to a Roth IRA. I wouldn’t pay taxes on either the contributions (since they've already been taxed) or the gains (right?). Let it grow tax-free indefinitely. But it feels odd to use a tax-advantaged account with such a low interest rate.
  2. Switch to pre-tax 403(b) contributions to reduce my current taxable income and defer taxes until retirement. I’d face RMDs and ordinary income tax later on, but I could invest the tax savings in an S&P index fund within a taxable brokerage account.
  3. Stop contributing to this plan entirely and just invest in index funds in my brokerage account, paying capital gains tax on withdrawals. Then, cross my fingers I can find a tax-equivalent yield of 4.167% to outperform the Roth benefits.

GhastlyJim said:
Welcome to the forum—it’s great to have you here!

As Yaggle4Z mentioned earlier, withdrawals from a Roth 403(b) are subject to RMDs. However, you can avoid this entirely by rolling the Roth 403(b) into a Roth IRA when you retire or leave your job. At that point, Roth IRA rules will apply.

If you withdraw from the Roth IRA before age 59½, the earnings portion would be taxed as ordinary income. But withdrawals from a Roth IRA are considered to come from your contributions first. This means you’d either need to make a very large withdrawal that exceeds all your contributions or it would take a long time before you even touch the earnings portion. Once you hit age 59½, everything becomes tax-free.

--------------------------
Now, about the second part of your question—this is where it gets tricky. What’s your current income and tax-filing status? Roth 403(b) contributions might be a good fit, or they might not be.

If you’re in the 12% tax bracket, Roth contributions are usually a smart choice. They might also make sense if you’re at the lower end of the 22% tax bracket and live in a state with income taxes. If you’re in a no-income-tax state, they could still be a good option for the entire 22% bracket.

For most people outside of these scenarios, Roth contributions to a workplace plan aren’t ideal.

Would you be open to sharing more details about your financial situation using the 'Asking Portfolio Questions' format? It’ll help us give better advice!
Click to expand...
 
Thanks for sharing more details about being in the 24% tax bracket and living in Texas. Based on this new information, here's my recommendation:

  1. Sell everything in the 3% earning investment in your Roth 403(b) and invest it in a 100% equities fund available in your 403(b). What options do you have in your plan? If you can, sort them by expense ratio and share the top 10.
  2. Stick with the Roth 403(b) option for another 3 years. The reason for this is that in 2026, tax rates will revert to 2017 levels, and the 28% tax bracket will apply. So, contributing to the Roth 403(b) for the next 3 years, and then switching to a Traditional 403(b) when tax savings increase to 28%, would be beneficial. With 25+ years to invest, it’s a good strategy.
  3. Consider purchasing I-bonds, up to $10k per year per person. The interest on I-bonds is tax-deferred, and you don’t need to report the interest until you redeem them or they mature after 30 years. This is essentially an extension of your tax-deferred space. You can do partial redemptions, just like an IRA (though the minimum redemption is $25, with increments of 1 cent thereafter).
The general Boglehead advice is to hold bonds in tax-deferred accounts and equities in Roth and taxable accounts. You’re deviating slightly from this by holding bonds in taxable, but that’s not a major concern given the long tax-deferred timeline. Plus, by the time you retire, no tax will be due on those bonds.
 
Lugnut99 said:
Given that I can’t roll over this account until I’m 59.5 without penalty, and considering that the new Secure Act 2.0 means I won’t have to take RMDs from Roth contributions to my 403(b), I’m weighing my options for future contributions. Which will help me the most, especially since the account is only earning 3%?
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Not exactly, because the law prohibits rollovers of employee deferrals or Roth contributions while you're still employed and under age 59.5. So, it's not a matter of penalty, but rather a restriction on the ability to perform the rollover during that time.
 
I had no idea these other investment options were available to me. If this turns out to be true, I’ll feel pretty silly (just a reminder, I recently took back control of my finances, and my financial planner had my Roth 403b contributions in a 3% interest-earning option). So, should I switch my 403b contributions to one of these low-cost equity funds? Since I’m just moving Roth money around, I shouldn’t have to pay taxes, right? These investments should earn far more than 3%, allowing for tax-free growth indefinitely? I can’t believe I didn’t think to explore other options. I was led to believe this was my only choice in this account. :( My husband and I also bought $20k worth of iBonds each last year, and we did it again this year. We’ll keep that up!

I’m so glad I started reading the Bogleheads book and found this forum. I really appreciate all the time you’ve taken to help me!

Here are some of the options available:

  1. TIAA-CREF Large-Cap Growth Index Fund (Institutional) [TILIX]
    Expense Ratio: 0.05%
    1-Year Return: 10.17%
    5-Year Return: 10.90%
    10-Year Return: 14.03%
    Rating: 5 stars
  2. TIAA-CREF S&P 500 Index Fund (Institutional) [TISPX]
    Expense Ratio: 0.05%
    1-Year Return: 7.38%
    5-Year Return: 9.37%
    10-Year Return: 12.50%
    Rating: 4 stars
  3. TIAA-CREF Equity Index Fund (Institutional) [TIEIX]
    Expense Ratio: 0.05%
    1-Year Return: 8.10%
    5-Year Return: 8.76%
    10-Year Return: 12.10%
    Rating: 3 stars
  4. TIAA-CREF Large-Cap Value Index Fund (Institutional) [TILVX]
    Expense Ratio: 0.05%
    1-Year Return: 5.80%
    5-Year Return: 6.63%
    10-Year Return: 10.24%
    Rating: 3 stars
  5. TIAA-CREF Small-Cap Blend Index Fund (Institutional) [TISBX]
    Expense Ratio: 0.05%
    1-Year Return: 11.37%
    5-Year Return: 9.19%
    10-Year Return: 9.55%
    Rating: 3 stars
  6. TIAA-CREF International Equity Index Fund (Institutional) [TCIEX]
    Expense Ratio: 0.05%
    1-Year Return: 9.58%
    5-Year Return: 4.73%
    10-Year Return: 6.74%
    Rating: 4 stars
  7. TIAA-CREF Bond Index Fund (Institutional) [TBIIX]
    Expense Ratio: 0.07%
    1-Year Return: 4.06%
    5-Year Return: 0.88%
    10-Year Return: 2.04%
    Rating: 3 stars
 
Lugnut85 said:
TIAA-CREF S&P 500 Index Fund (Institutional) [TISPX]
TIAA-CREF Equity Index Fund (Institutional) [TIEIX]
TIAA-CREF International Equity Index Fund (Institutional) [TCIEX]
TIAA-CREF Bond Index Fund (Institutional) [TBIIX]
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I'd use either TISPX or TIEIX for US Stocks, then use TCIEX for international stocks, and if needed or desired, TBIIX for fixed income / bonds.

Also, you're correct, that moving money around in a Roth account won't generate any income tax consequences.

Regards,
 
I completely agree with Yaggle4Z’s suggestions. Those are the exact funds I would choose too. Though, I might skip the Bond Index fund for now. The benefit of Roth accounts is that all growth is tax-free (as long as you keep it there until 59.5). You don’t want to limit that growth by adding bonds.

Since your money is currently in a Roth within your 403(b), I’d suggest selling it and investing in TISPX, TIEIX, and TCIEX in proportions that suit you.

If you decide to make Traditional contributions in the future (though I’d recommend waiting until 2026), a portion of that can go into TBIIX. Even if you opt for Traditional contributions, you could still invest in equities within your 403(b) plan. I-bonds in taxable accounts might already cover your bond allocation, so you might not need to use bonds in the 403(b).

By the way, you’re incredibly lucky to have such great options in your 403(b) plan. My wife, a teacher in NJ, only has access to an Equity Index fund with a 0.53% expense ratio—still good, but 10 times more expensive than what you have! I'm a little envious of your plan!

Also, with these excellent choices in your 403(b), there’s no need to roll funds into an IRA. Rolling over would take away access to these low-cost institutional funds and result in higher expenses in an IRA. Even Vanguard’s 500 Index fund in retail has the same 0.05% fee as your plan’s option, and their Total International Stock Index fund costs more than your TIAA-CREF option. Unless your plan charges for withdrawals (which some do), you can happily keep the funds in your plan, even in retirement.
 
Thanks for the follow-up info! I’m glad I’m taking control of my finances again. I didn’t even realize I had other options in the plan my financial planners set up for me. It seems like they picked a solid plan, but unfortunately invested the money poorly in a 3% bond/annuity or whatever it is. I’ve made a note to review the fees when I retire to decide whether I should keep the money in the plan or roll it over. Thanks again!

GhastlyJim said:
I completely agree with Yaggle4Z’s suggestions. Those are the exact funds I would choose too. Though, I might skip the Bond Index fund for now. The benefit of Roth accounts is that all growth is tax-free (as long as you keep it there until 59.5). You don’t want to limit that growth by adding bonds.

Since your money is currently in a Roth within your 403(b), I’d suggest selling it and investing in TISPX, TIEIX, and TCIEX in proportions that suit you.

If you decide to make Traditional contributions in the future (though I’d recommend waiting until 2026), a portion of that can go into TBIIX. Even if you opt for Traditional contributions, you could still invest in equities within your 403(b) plan. I-bonds in taxable accounts might already cover your bond allocation, so you might not need to use bonds in the 403(b).

By the way, you’re incredibly lucky to have such great options in your 403(b) plan. My wife, a teacher in NJ, only has access to an Equity Index fund with a 0.53% expense ratio—still good, but 10 times more expensive than what you have! I'm a little envious of your plan!

Also, with these excellent choices in your 403(b), there’s no need to roll funds into an IRA. Rolling over would take away access to these low-cost institutional funds and result in higher expenses in an IRA. Even Vanguard’s 500 Index fund in retail has the same 0.05% fee as your plan’s option, and their Total International Stock Index fund costs more than your TIAA-CREF option. Unless your plan charges for withdrawals (which some do), you can happily keep the funds in your plan, even in retirement.
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