403(b) Tax-Sheltered Annuity: How It Works and What It Costs (2026)

What is a 403(b) tax-sheltered annuity?

A 403(b) is a retirement account built specifically for employees of tax-exempt organizations: public school teachers and staff, hospital employees, and workers at qualifying nonprofits. Contributions typically come out of your paycheck before tax, and the balance grows tax-deferred until you withdraw it in retirement. The tax-sheltered annuity name is a holdover from when these plans were funded almost entirely through annuity contracts, though today many 403(b) menus also include mutual funds.

The plan exists because Congress carved out a separate section of the tax code, Section 403(b), for employers that don't pay corporate income tax in the first place and therefore couldn't offer a standard 401(k) the way a for-profit business does. Eligible employers include public school systems, colleges and universities, hospitals and other 501(c)(3) nonprofits, and certain churches and religious organizations. If your paycheck comes from one of those, a 403(b) is likely the retirement plan sitting on your benefits menu.

How a 403(b) plan works

Your employer sets up the plan, and you decide how much of each paycheck to defer into it. That amount is deducted before income tax is calculated, which lowers your taxable income for the year you contribute. Once the money is inside the plan, it grows without an annual tax bill on interest, dividends or gains. You choose investments from whatever menu your employer's plan offers, commonly mutual funds, annuity contracts, or a mix of both, and you owe income tax only once you actually take withdrawals, typically at your retirement-year rate rather than your working-years rate.

A hypothetical example makes the mechanics clearer. Say you earn $60,000 a year and elect to defer $6,000 into your 403(b). Your employer reports only $54,000 of that year's pay as taxable wages on your W-2, so you owe income tax on the smaller number even though your actual salary didn't change. The $6,000, plus whatever it earns from that point forward, isn't taxed again until you eventually take it out of the plan.

Weighing a 403(b): the upside and the tradeoffs

See the pros and cons above for the full list. In short: the tax deferral and, often, an employer match make a 403(b) hard to beat for eligible employees, while a capped contribution limit and, at some plans, a thin investment lineup are the real tradeoffs to watch.

An employer match is worth special attention if your plan offers one. Some employers require you to stay a set number of years before that matching money is fully yours, a process called vesting, so check your plan document for the vesting schedule before assuming every matched dollar is guaranteed to be permanently yours the moment it lands in your account. Even a modest match, and even a thin fund lineup, usually still beats saving the same money in a fully taxable account, since the tax deferral alone gives your balance a head start that ordinary savings can't match.

How 403(b) withdrawals and taxes work

You can generally take money out of a 403(b) without the extra 10% early-withdrawal penalty once you turn 59 and a half, leave the employer, become disabled, or in the event of your death. Many plans also allow hardship withdrawals for a documented immediate need, such as certain medical bills, preventing eviction or foreclosure, or funeral costs, and some plans let you borrow against your own balance instead of withdrawing it. Both features vary by plan document, so don't assume your plan offers either one without checking. Pull money out early for a reason your plan doesn't cover, and expect the regular income tax due plus a 10% penalty on top.

Required minimum distributions

Once you turn 73, the IRS requires you to start taking minimum withdrawals from your 403(b) every year. The required amount is based on your account balance and an IRS life expectancy table, and missing an RMD carries a steep penalty, so track the date closely as you approach it. As a hypothetical example, a $500,000 balance divided by a life-expectancy factor of roughly 26.5 works out to about $18,868 required for that year, a figure that changes annually as both your balance and your factor change. Talk with a tax professional about how your own RMD is calculated.

How a 403(b) differs from a 401(k)

The two plans share the same basic purpose but differ in a few concrete ways:

• Who can offer one. 403(b) plans are limited to tax-exempt employers, schools, hospitals and nonprofits. 401(k) plans belong to for-profit companies.
• Contribution limits. Both plan types share the same base deferral limit and the same standard age-50 catch-up. What actually sets 403(b) plans apart is a lesser-known option: employees with 15 or more years of service at certain qualifying employers can add an extra catch-up contribution on top of the age-based one.
• Investment menu. 401(k) lineups typically span a broad range of stocks, bonds and mutual funds. 403(b) menus have historically leaned more heavily on annuity contracts, though that gap has narrowed.
• Employer contributions. Both plan types can include a match, but the formula is set plan by plan rather than by the type of plan itself.
• Withdrawal rules. 403(b) plans can be more restrictive about early access to your money, so check your own plan document rather than assuming 401(k) rules carry over.
• Portability. Leave the employer, and a 403(b) generally rolls over tax-free into a traditional IRA, a new employer's 401(k), or another 403(b), the same way a 401(k) does. Changing jobs doesn't mean starting your retirement savings over.

Types of 403(b) plans

Employers can offer several different versions:

• Traditional 403(b): Contributions go in pre-tax, and you owe tax on both the contributions and the growth once you withdraw in retirement.
• Roth 403(b): Contributions go in after tax, so qualified withdrawals in retirement, including every dollar of growth, come out completely tax-free. Unlike a Roth IRA, a Roth 403(b) has no income limit that could block a high earner from contributing.
• Combination 403(b): Some plans let you split contributions between the traditional and Roth options, hedging your bet on where tax rates head in the future.
• Non-ERISA 403(b): Churches and certain religious organizations can offer a version exempt from the federal ERISA rules that govern most retirement plans, which changes some of the reporting and protection requirements that apply.
• Individual 403(b): Built for self-employed people who work for a tax-exempt organization, letting them contribute to a 403(b) in their own name.

Which of these your employer actually offers comes down entirely to their plan design, so check with your benefits office rather than assuming every option is on the table.

A combination 403(b) deserves a second look if your plan offers one, since splitting contributions between traditional and Roth dollars is essentially a hedge against not knowing what tax rates will look like decades from now. Contributing to both at once means part of your eventual retirement income is already locked in as tax-free, no matter what Congress does with tax brackets between now and then.

403(b) contribution limits for 2026

The IRS caps how much salary you can defer into a 403(b) each year. For 2026, that limit is $24,500. If you're 50 or older by year end, you can add a catch-up contribution of $8,000 on top of that, and under SECURE 2.0, savers aged 60 through 63 get a larger catch-up of $11,250 instead of the standard amount.

These limits are combined across certain other plan types, not stacked on top of them. If you also defer money into a 401(k), a SIMPLE IRA, a SARSEP, another 403(b), or a plan under Code Section 501(c)(18) in the same year, your total elective deferral across all of them is capped at the same overall figure.

To put the numbers together: a 61-year-old eligible for the age 60 through 63 catch-up could defer the standard $24,500 plus the $11,250 catch-up, for a total of $35,750 in 2026, before touching any separate employer contribution. A 45-year-old with no catch-up available is limited to the base $24,500.

What happens to your 403(b) after you retire?

Your contributions and growth stay tax-deferred as long as the money remains inside the plan, but every dollar you withdraw in retirement is taxed as ordinary income. You can roll a 403(b) into an IRA or into an annuity without creating a taxable event at the time of the rollover, since a rollover isn't treated as a withdrawal. You'll still owe income tax once you begin taking money from the new contract, but converting to an income annuity is one way to turn a lump sum into guaranteed lifetime payments instead of managing your own withdrawal schedule and guessing how long your balance needs to last.