Sunday, November 25, 2012

Types of Accounts: 401(k) & 403(b) Similarities

A 401(k) & 403(b) are employee sponsored accounts, thus your employer must offer them to be an eligible participant. They are both retirement accounts, hence are tax-deferred, and contain pre-taxed dollars. In essence they are very much like Traditional IRA’s (in reality they are categorized as Traditional due to this fact). Unlike a Traditional, these retirement accounts are administered by a financial management company chosen by your employer (or one of several they will allow you to choose from) and you select which investments you would like to pursue. However the investments available to choose from are limited. Since the account is designed for retirement, the investments available are naturally conservative. This means individual stocks aren’t typically available to invest in, neither are ETF’s or Options (which I will get into later). This is due to their volatility and the risks associated with these investments. Some investments typically available in these accounts are Mutual Funds (also explained later), Bonds, and Annuities. These investments are usually much more secure, meaning they aren’t as volatile, making them perfect for retirement accounts.

Unlike Traditional IRA’s however, these accounts are automatically funded by your employer through your paycheck. How is this done? When signing up for a 401(k) or 403(b) through your employer, you will be asked how much of your paycheck you would like to designate into your retirement account. A percentage of your paycheck, rather than a fixed dollar amount, is the typical method of funding. There are contribution caps associated with these accounts and are typically determined by your income. In many cases employers will match any contributions you make into your retirement accounts like SIMPLE’s, however they aren’t required and can be in any ratio. Some companies match dollar-for dollar, 50 cents for each dollar, and some may not offer any matching at all. Now that we have gone over how a 401(k) & 403(b) are similar, let’s go over their differences.

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