401k, 457b, 403b, IRA, Keogh, SEP, Traditional or Roth, Annuities, Distributions, Tax and More – Understanding the Intricate Details Behind Retirement Plans (and Learning about Some Lesser-Known Ones That May Be the Best for You)

My personal desire to attain my Series 6, 63, and 65 financial advisory licenses came from my experiences serving in the US Army Special Forces. I know that may sound extremely strange to many of you, so let me explain that a little bit. 

I’m what they call a post-9/11 SF baby (18X), meaning that I entered the Army and made my way to Special Forces after 9/11. Funnily enough, I was going to be the first guy in my family to skip military service (I’m from a long line of military officers), but 9/11 happened during my sophomore year of college. My dad had been a Navy pilot and was a commercial pilot after, so finding out about those planes being hijacked hit me on multiple levels.  

Being from a family of military officers, they counseled me to finish college before going into the service. They knew from day 1 that the “war on terrorism” was going to be a long one and that I wouldn’t likely go back to college post-Army. Little did they know I would do pre-med and get my MBA after my service was complete, but I’m wired differently than most.  

I signed up for the delayed entry program, which meant that I finished college and was on my way to infantry basic training a month after my college graduation. I knew that I was made for Special Forces, but not so much the conventional military (I have a very strong rebellious streak), so despite my degree I chose to go enlisted rather than as an officer. 

This meant that I already had my undergraduate business degree before going into the Army, and throughout my time in the service, I was blown away at how little the average guy knew about finances, investments, retirement plans, and what to do with their money. There are quite a few special plans available to active-duty military, and I did my best to help my friends understand and gauge which was a good or bad decision based on their circumstances. 

For some reason, I’ve always had the ability to absorb, understand, and explain highly complex information in an easy-to-understand way. I don’t know why, but I was given that gift and decided to put it to work helping people understand investments and their retirement plans after my time in the service was complete. 

The Various Types of Retirement Plans for People Across Multiple Careers and Industries 

Most people only know about the 401(k) and IRA retirement plans, and simply go with whatever their employer offers. But did you know that there are special retirement plans for entrepreneurs, solopreneurs, non-profit employees, teachers, government employees, and others? 

Additionally, you can set up multiple retirement plans to take advantage of different tax implications and benefits if you are willing and able.  

So what plans should someone be invested into?

Sheryl Patterson, CFP, managing director of investments at Wedbush Securities has the following thoughts:

“The first questions I would ask is where a person works and what type of plan is available at their place of employment. 457 Plans are usually available with government entities, 403 plans are usually with non-profit entities, and 401(k) plans are usually available with larger for-profit companies. There are some other plans for self-employed people to set up for themselves, or for smaller employers. All of those plans typically allow you to contribute more than any individual plan, so I would start with those.

Individual Retirement Accounts “IRA”, and Roth IRA accounts have lower limits of what you can contribute, plus have income limitations (which change every year).  But, these types of accounts can be used to rollover assets from or to the employer-sponsored plans." 

As part of my lifelong dedication to helping people understand their finances, I thought this would be a great venue to help the visitors to AdvisorCheck understand the differences between the various retirement plans, who they are good for, and the tax implications of each.  

The days of pensions are long gone for most employees in the US, so it’s on each of us to make sure we save for a comfortable retirement.  

“While people like my grandfather was able to retire off of a pension and have quite a comfortable life, the amount of people who are able to do this decreases significantly each day, “say Leonard Kim of AdvisorCheck. “Finding an employer who still offers a pension is few and far in between. Those who consider leaving those jobs may not be able to get their pension back if they do, as employers who once offered one do not offering them to returning employees,” Leonard continued.  

I am no longer an active financial advisor, so I’d like to say upfront that this is not financial advice, but rather an educational opportunity to help you better understand the options that may be available to you. If one of the plans below piques your interest and you want to know more, find a good financial advisor near you using AdvisorCheck’s search tool to see if it can help you reach your retirement goals. 

However, before we get into a breakdown of each individual retirement account with the benefits and drawbacks, here are some insights from an actively practicing financial advisor.

Robert D. Higgins, CFP, principal and client advisor at Dalton Financial, has the following thoughts about retirement accounts:  

“The choice of retirement plans depends on circumstances such as tax bracket, availability of company sponsored plans, age, etc. But ignoring the complications, let’s look at the case of a young person in the zero percent tax bracket. I have two young men in my household that fit this description. I’m funding Roth’s for them to the contribution limit of $6,500 or their earned income, whichever is lower. 

In this situation, we are not speculating about whether their tax rate might be higher or lower in retirement. The funds will grow tax free until withdrawn. It just doesn’t get any better than that. 

As they get older, move out and get real jobs, they will likely enroll in a 401k with a matching contribution. I would be hard pressed to imagine a scenario where they shouldn’t contribute to capture the match. That’s essentially free money with very little risk. Even if you had to borrow money for contributions and cashed it out at the end of the year, you’d probably still come out ahead, even after taxes and penalties. Capturing the employer match is an absolute must. 

Non-deductible IRA’s and annuities must be approached with great caution. While they can be suitable, few people recognize the trade-offs relative to regular taxable individual accounts. All gains withdrawn from non-deductible retirement plans are taxed as ordinary income. Taxable individual accounts offer preferential tax rates for qualified dividends and long-term capital gains. All IRA’s and annuities convert these preference items into ordinary income, which means you end up paying more tax, albeit on a deferred basis. It’s like the Government showcases the upfront tax benefits but reclaims a bigger chunk later. If the private sector cooked up a scheme like this, Congress and the SEC might deem it deceitful.”

A question that is on the forefront of a lot of business owners and even young individuals is whether or not the traditional retirement plans are right for them.

Peter J. Canniff, CFP, a financial advisor at Advanced Portfolio Design, has the following thoughts for both business owners and for young savers:  

For business owners, a qualified retirement plan like a 401(k) is a really good place to begin accumulating assets. Business owners have more risk than most people and qualified employer plans have more protections from various types of lawsuits, liabilities and even IRS claims. I have seen a number of business owners get into financial trouble, through no fault of their own, and come through with very little but their home and their 401(k) account. 

For younger savers, I often recommend saving into various types of Roth accounts. This is especially true if you plan to earn more and more money and become wealthy as you get older. When you are young and in your modest income years, you don’t need or want pre-tax contributions like someone in their peak earning years, like others who are between the ages of 55 to 65. Why defer a 12 percent or 22 percent income tax when you’re in your 20s and 30s, only to possibly pay a 33 percent tax (or worse) in retirement? Roth money grows completely tax free if you follow the rules.

Gary S. Williams CFP®, CRPC®, AIF®, founder and CEO of Williams Asset Management, has the following thoughts:  

“As a general rule of thumb, investing the maximum allowed into pre-tax plans such as 401k or 403b plans is my first suggestion when it comes to retirement planning. With that said, rules of thumb don’t account for everyone’s unique situation, so sometimes, if an individual is in a low tax bracket, investing in an after-tax Roth IRA or Roth 401k may be more beneficial over the long term.  Another option that is sometimes overlooked is maximizing a health savings account (HSA) which, when used for allowable medical expenses, can give you the ‘best of both worlds’ with pre-tax contributions and tax-free growth.  The key is to not use the HSA plan as it accumulates and grows over time and then use this plan for health care expenses in retirement.” 

Retirement Plans and the IRS 

To begin, it may be best to have a quick primer on the confusing numbers that differentiate the various retirement plans. Each of the numbers that are often used to name the plans is numbered in accordance with the section of IRS regulations that governs it. The 401(k), 457(b), 403(b), and 401(a) are all simply named for their regs. 

Fun fact: did you know that there have been several movements, politicians, and pieces of legislation that have tried to simplify the complicated US tax code? Each time the movement has gained steam, massive amounts of money have been spent on lobbying to prevent the change –by the companies that make and sell tax preparation software. 

What Is the Purpose of a Retirement Plan and Its Tax Designation? 

Looking at retirement plans and investments through the lens of taxes, there are four different types of investments that you can make: 

1. Taxable 

2. Tax-deferred 

3. After-tax 

4. Tax-exempt 

These designations refer to the point at which taxes are taken from your investments. Yes, even “tax-exempt” investments will still have taxes in there somewhere, as you likely paid taxes on the income you earned that allowed you to make that investment. As founding father Benjamin Franklin said, “In this world, nothing can be said to be certain, except death and taxes.”  

While it may seem like a trivial detail, the point at which taxes are taken out can be very important in the long run, so it’s important to pay attention to this. We’ll talk about the power of compound interest later (which Albert Einstein called the 8th wonder of the world) and how it can work to your benefit.  

One mistake that I’ve seen made often is people calculating their retirement nest egg without subtracting the taxes from a tax-deferred (traditional) retirement account. This can lead to a disastrous shortfall, especially if you are planning on those funds to keep you going for quite some time (and I hope that everyone reading this has a long, happy, and fruitful experience during their golden years of retirement). 

If you don’t understand the specifics between the four categories listed above, please keep reading and pay attention.  

Taxable Investments 

Just about everything (save for a few special examples) in the world of investments is taxable. When the term “taxable” is used for an investment, however, what it means is that they are taxed on a regular basis. Stock trades in your regular trading account, for example, have their sales, profits, and losses reported to the IRS (and should also be reported on your taxes every year). 

There is a difference between standard income taxes and the capital gains tax rate, for now, although there are political elements working very hard to do away with that.  

Selling a property can also be a taxable event, but not always. Property sales can be treated as a special circumstance if you immediately put the money from the sale directly into another property (talk to a tax specialist or a financial advisor through AdvisorCheck if you are considering selling your home or property).  

Tax-deferred Investments 

Most retirement plans fall into the tax-deferred category, which can also be called a “traditional” plan. Also popular but not as frequently used are “Roth” plans, which I will explain in greater detail below.  

A tax-deferred investment is well-named because it allows you to defer the taxes on it until you withdraw your money. Many of these plans can be set up to withdraw money directly from your paycheck to be invested without having any taxes taken out along the way. This is great because it allows your principal to grow unhindered by taxes every year.  

It can also be dangerous because many assume that as a retirement plan, you won’t have to pay taxes on it later on down the road. 

The benefit of a tax-deferred retirement plan is one place in which the power of compound interest can be seen. Using simple numbers, let’s say that you have $1000 invested, you earn a 10% return, and your tax rate is 10%. 

If your $1,000 grows by 10% this year, you will have $1,100 at the end of the year. If you have to pay taxes on those gains at the end of the year, you are back to square one with $1,000. 

In a tax-deferred account, however, those taxes are not taken out until you withdraw the money. That means that if you gain 10% this year, your principal is now $1,100 and that is the amount to grow until you retire. If you earn 10% again the following year sans taxes, you would then have a $1,210 principal to continue to grow ($1,100 x 1.10).  

The following year would bring you to $1,331 at the same rate of return ($1,210 x 1.10), and that growing principal would continue to “compound” your returns as it increased the amount of money being invested.  

There is a rule of thumb in investing called the Rule of 72, which shows that an investment at an annual fixed rate of 10% growth with double in 7.3 years. While it isn’t a given that you will have 10% growth every year, it does highlight the power of compound interest. 

Most tax-deferred retirement plans have a required age that you must reach before you can withdraw money without paying a penalty. This age is typically 59 ½, and the IRS requires you to take Required Minimum Distributions (RMDs) after age 73.  

There are situations in which you can withdraw early without paying a penalty, but in many of these situations, your withdrawal will still be taxed as ordinary income. Here are the situations in which you can take an early, penalty-free withdrawal from a tax-deferred account: 

• To pay unreimbursed medical bills 
• If you become totally and permanently disabled 

• To pay health insurance premiums if you’ve been unemployed for 12 weeks 
• If you are the beneficiary of an IRA account holder who has died 
• To use the money to pay taxes 
• First-time home purchase 
• Higher education expenses (401(k) plans with a hardship withdrawal policy will still incur a 10% penalty, but IRA plans will allow this penalty-free) 

• Substantially equal periodic payments over time, for at least 5 years, for income purposes 
• In the year you become a parent (through birth or adoption) you can withdraw up to $5,000 from your IRA 

After-tax 

After-tax plans are also well-named because your investments are made – you guessed it – after the taxes have already been paid on them. The popular Roth plans are a form of after-tax investment, but they are not open to everyone. While your principal may be a tad lower than in a tax-deferred account, you can rest assured that the balance you see in your after-tax retirement account is what you can plan to live on later in life. 

Why would someone choose a Roth plan over a traditional plan, if the traditional has more added to your principal and compound interest? 

One of the great aspects of a Roth plan is the ability to hedge against future tax increases. While many of us complain about having high taxes right now, we have no idea what the tax rates will be 10, 20, or 30 years in the future when we need our retirement savings.  

Sure, there’s a chance that the tax rates will be lower in the future when we actually need that money in retirement. But with the way the US government is currently printing and spending money, I wouldn’t count on it.  

Cash value life insurance gets a bad rap from people who don’t understand how it works, but it can be used as another form of after-tax retirement savings if done correctly. 

Tax-exempt 

Wouldn’t we all like to find an investment for which we didn’t have to pay any taxes on returns? They do exist in some unique situations. 

While not retirement plans specifically, there are some mutual funds and fixed-income plans that offer tax-exempt investment options. Some of these may be available in your IRA, 401(k), or other types of retirement plans listed below, so it’s important to understand what they are. 

Municipal bonds are considered tax-exempt because you don’t pay taxes on their gains. Typically, you will have to pay both state and federal taxes on investments, but with municipal bonds, you will only have to pay one of those (unless you are in a no-income-tax state like Texas). 

There are several types of municipal or “muni” bonds: city, state, and federal. To understand the tax implications of a tax-exempt bond, there is a simple phrase to remember: 

“They tax themselves but not the other.” 

This means that for a city or state bond, you will pay city or state taxes but not federal. 

Likewise, on a federal bond, you will pay federal taxes, but not city or state. 

These bonds typically do not offer especially high returns but are considered extremely safe and stable investments. They are often used by wealthy investors who have a large amount of invested capital and want to reduce their tax exposure, or by investors who are risk-averse. 

Traditional vs Roth 

I briefly mentioned the difference between a traditional and a Roth plan above, but there are more specific differences that should be noted. I will cover these in the IRA section below since that is the most popular type of retirement plan that offers both options. 

You should be aware that some employers also offer a Roth 401(k) plan, although not as often. This is one of the reasons that you should pay close attention when making your retirement plan elections at a new employer - your choices can make a big difference down the line.  

Defined Benefit vs Defined Contribution 

You will also see the terms “defined benefit” or “defined contribution” in reference to different retirement plans (and the rest of this article). These are a couple more instances in which IRS naming conventions actually make sense. 

A defined benefit plan is so named because the benefits that you receive are defined in advance. With a pension or annuity, the amount of money that you will receive is “defined” in that you know how much it will be. 

There is one caveat to this in regard to pensions, however. Many cities or companies that go into Chapter 11 bankruptcy will work to alter their pension plans (if they have any) to save the organization. This happened with the City of Detroit when they faced hard times, and more than a couple of companies during the 2008 Great Financial Crisis.  

But barring a major unforeseen economic or another event that threatens the city, public utility, or company, you will know how much to expect when you retire. 

On the other end of the spectrum is the defined contribution plan, where you define exactly how much you will contribute to the plan every month. The amount that you will have in retirement for these plans is based on how much you contribute, your investment choices, and the performance of those investments over time. 

The Plans 

Now that we’re on the same page of music concerning the terms and definitions behind retirement plans, let’s get into the different types of plans, who they are available for, and what they are. 

Individual Retirement Account (IRA) 

401(k) 

A 401(k) is a retirement plan that is sponsored by an employer. While there is no requirement that every company or employer has to have them, there are advantages to the employer so most large companies will offer one.   

Remember that a 401(k) plan can be in either the Traditional or Roth tax classification, so pay attention the next time you start working for an employer that does offer this type of plan. 

Although a 401(k) plan is most often thought of with large companies, you can start one of these if you own your own small business, both for yourself and for your employees. For a company-wide 401(k) plan many providers will put money into the owner’s plan based on employee contributions. If you are a solopreneur, you can also start a Solo K plan for yourself (I will discuss that further below). 

A 401(k) plan is a form of agreement between an employer and employee (and the IRS) to determine when they take their compensation. The employee can choose to be paid in cash (a paycheck) or to defer a portion of their earnings into their 401(k). 

Because the employee decides how much of their paycheck to put into their 401(k) every month (if any), this is considered a defined contribution plan. 

Some employers will opt to match a percentage or all of an employee’s contributions to their 401(k) plan. If your employer does offer this, I suggest that you take them up on their offer if you can afford to do so. This is essentially free money in the bank, but it is harder to find employers who offer this today than it was 10 or 20 years ago. 

For 2023 the maximum amount that you can contribute to your 401(k) annually is $22,500. The max contribution amount changes frequently, so make sure that you find a good financial advisor on AdvisorCheck to help keep you up to date and manage your 401(k) contributions as well as your personal investments. 

You don’t want to be left high and dry when it’s time to retire and the cost of living is through the roof. A good financial advisor or CFA can mean the difference between living on ramen or sipping Mai Tais on the beach in your retirement years. 

As of 2023, you are allowed to contribute an extra $7,500 per year in “catch-up” contributions starting in the year that you turn 50, meaning that you can begin to contribute $30,000 per year at that age (the catch-up for an IRA is only $1,000 extra per year).  

401(k) Investment Options 

One thing that I dislike about 401(k) plans is that there are a limited number of investments that you are allowed to choose from. I’ve seen some large companies that only offer a very small number of options, while I’ve also seen small businesses that offer their employees a wide array. 

These choices will most often offer mutual funds, index funds, and their own stock if you work for a publicly-traded company. They may also include stocks, bonds, and other investments as outlined in the plan, but most commonly they will only offer mutual and index funds. 

This can be troublesome if you know that a recession and market correction are likely to be coming, as it is now. There are almost always at least a few good counter-cyclical and commodities-based options to choose from, that can help to save your portfolio if you know things are going to get ugly.  

If you don’t understand what any of those terms mean, go directly to AdvisorCheck right now to find a good financial advisor to look at the options to rebalance your 401(k) if you have one. 

Distributions 

You are generally supposed to be at the age of 59 ½ before you begin to withdraw money from your 401(k) without penalty, but there are four different scenarios that may prevent that. In the following situations, you can withdraw or begin to withdraw the money from your 401(k): 

1. You separate from your employer (retirement, death, disability, or layoff/firing). Your options, when this happens, are: 

1. You opt for an early cash-out. This should be your last option, because the employer will be required to keep a portion for taxes, and you will be hit with penalties on top of that 

2. You choose to roll over the 401(k) into a new employer’s plan 

3. You choose to roll the 401(k) over into a personal plan (IRA or annuity). Before making this decision, find an advisor through the AdvisorCheck platform. Like anything, there are great plans but there are also some terrible ones out there - have a professional look at it before you move your nest egg. 

2. You reach the age of 59 ½ 

3. You face a hardship as defined by your plan  

4. The plan is terminated 

There is also the ability to take a loan out against your 401(k) investments, but that can get complicated in many situations. If you think that this may be something that you want or need to do, speak with a financial advisor (a CFA would be good for this) that you find through the AdvisorCheck platform before doing so. 

Solo 401(k) — also referred to as a “Solo K” 

If you own a small business as a sole proprietor or solopreneur, you can also take advantage of a Solo 401(k) for yourself. While the 401(k) is an agreement between an employer and employee, the Solo K is for those of us who run our own businesses through which we are the only employee (besides our spouses).  

The Solo K has both tax and reporting advantages because it doesn’t fall under ERISA reporting guidelines. So if you own your own business and want to take advantage of tax benefits for your own retirement but are worried about the headache of paperwork, this plan may be exactly what you need.  

You will need a financial professional to help you find the right provider and set up your plan. You can find one in the same amount of time it takes to Google the local pizza shop using AdvisorCheck. 

The IRA is the next most popular type of retirement account behind the 401(k) (there were 34.6% of working Americans with a 401(k) vs 18% with an IRA or Keogh in 2022, according to the Census Bureau). Like the 401(k) these plans can come in either the Traditional or Roth format. Unlike the 401(k), you can have an IRA with or without your employer. 

It should also be mentioned that it is possible to have more than one of these types of plans at the same time, although the IRS does limit overall contributions. For example, there was a time in my life that I had a 401(k), Traditional IRA, Roth IRA, and Employee Stock Purchase Plan (ESPP) all at the same time. 

I’m the kind of guy that gets the thrill from saving and investing that others get from spending, however. As I said above, I’m wired a bit differently than most.  

An aspect of the IRA that I prefer over the 401(k) is that your options for what to invest in are typically far less limited. There are the standard stocks, mutual funds, and bonds to invest in, but today there are many companies that you can use to put gold, precious metals, and even crypto or property into your IRA investments. 

It should also be stated that the contribution limits for an IRA are far lower than a 401(k) ($6,500 annual limit, with an extra $1,000 allowed for the “catch-up” provision starting at age 50). 

The rules for Traditional and Roth IRAs are as follows (rules here are for 2023): 

Traditional IRA 

• Annual contributions to an IRA cannot exceed what you earned that year 
• There is no income ceiling (no matter what your income you can use a traditional) 
• You must begin to withdraw money, in increments mandated by the IRS, by age 73 - the IRS will hit you with a 50% excise tax if you fail to take these required minimum distributions (RMDs) 
• There is no age limit to contribute to an IRA (this changed in 2019) 

• Contributions to your plan are tax deductible on both state and federal taxes for the year in which you make the contribution 
• No required time between the first contribution and the first withdrawal 
• Contributions to your traditional plan reduce your taxable income in the contribution year (meaning the amount of income you pay taxes on is lowered) 
• Unqualified withdrawals before the age of 59 ½ may trigger a 10% early withdrawal penalty 

Roth IRA 

• Modified Adjusted Income ceiling for single filers of $153,000 and $223,000 for married filing jointly (as of 2023 if you make more than $153,000 or $223,000 jointly you cannot use a Roth plan unless you use the back door method) 
• Your total contribution limit for a Roth IRA is reduced if you make between $133,000 and $153,000 as a single filer 
• You cannot contribute more than your earned annual income to a Roth plan 
• No required withdrawal within the plan owner’s lifetime (no RMDs) 

• No tax breaks for contributions 
• Your first Roth contribution must be made a minimum of 5 years before your first withdrawal (or else you will incur a 10% tax penalty) 
• If you are under 59 ½ you may withdraw $10,000 without penalties to purchase your first home, pay for qualified higher education expenses, or other hardships (you will still pay taxes on the distribution as normal income, but not the early withdrawal penalty) 

The Traditional and Roth IRAs listed above are the most well-known, but they are not the only options available. Below we will go through some lesser-known versions of the IRA that actually may be the best option if they fit your particular situation. 

SEP IRA 

The SEP IRA is an option that is available to small business owners who want to provide their employees with a retirement plan but don’t want to start a 401(k) (the 401(k) can be expensive and difficult to manage). The most important rule to know when considering a SEP IRA is that all employees must receive the same benefit.  

When using a SEP IRA, the employer may opt to make tax-deductible contributions on behalf of their employees, including the owners themselves. It’s not a requirement that these contributions are made, but if they are they must be done in the same percentage of total compensation for all employees under the plan. 

This can be a drawback if you believe in the Pareto principle (20% of employees do 80% of the work), but the tax-deductible contributions can be great for both employee morale and bringing down taxable revenue in good years.  

Savings Incentive Match Plan for Employees (SIMPLE) IRA 

The SIMPLE IRA retirement plan is great because, well, it’s simple. This plan allows employees to contribute part of their pre-tax compensation to the plan. 

A SIMPLE plan has low administrative overhead costs and is easy to manage, but there is a catch. Under this type of retirement plan, employers have to either make matching contributions to the employees’ or add non-elective contributions if the employees elect not to contribute on their own.  

Keogh 

Pensions may be dying off in much of corporate America, but a Keogh plan is a way for small business owners to create pensions for themselves through their companies. 

These retirement plans are available to the self-employed or unincorporated businesses (solopreneurs). Because a company is taxed differently than an individual’s W2 earnings, these can give you some great tax benefits for the company while also allowing you to save for your own retirement.  

Keogh plans can be set up as either defined benefit or defined contributions plans, but you must elect one option in advance. One of the defined benefit options is a profit-sharing plan, and the company doesn't even have to be profitable for you to set money aside for it.  

The Keogh plan is not well known, but it can be extremely advantageous for self-employed or solopreneurs. If this sounds like something that you’d like to do in order to start saving up for your own retirement, find a good financial advisor through AdvisorCheck so they can walk you through the specifics and potentially set one up for you. 

Annuities 

Annuities can have a bad reputation with those who don’t understand them, or from those who have opted for a bad one. Some annuities can have very high expenses, so it’s paramount that you speak with a financial advisor to go through the specifics before you decide on one, if it’s an option that you think is right for you. 

An annuity is a form of defined contribution plan that affords you a specific amount of money for the rest of your life – no matter how long you live. This issue is that if you choose a bad plan or don’t start off with enough money in the plan, that amount of money could be low. 

An annuity is a contract between you and an insurance company to use the money that you pay them now to guarantee you a stream of income in your retirement years. When done correctly, these can offer peace of mind that you will have money coming in for long after you stop working.  

Have you ever heard of the options that lottery winners are given to either take one lump-sum payment or receive a defined amount of money for the rest of their lives? The latter option is a form of annuity. 

Annuities are also the way that the ultra-wealthy fund philanthropic causes in perpetuity. They simply take a specific amount of money and put it into a financial product that, based on the federal funds rate, will use treasuries to give money to the specified cause forever. Because that money is only equal to the interest gained on the account, the income stream will last forever (or, at least, as long as there is a US Government that funds itself through selling treasuries). 

An annuity may seem too good to be true, but it makes perfect sense when you understand what insurance companies really do, and why Warren Buffett loves them so much.  

Insurance companies are really investment houses that are full of the smartest financial minds on the planet. The next time that you are in downtown NYC or Chicago, have a look around at how many of the tallest skyscrapers are owned by or named after insurance companies.  

Their business model is to use actuaries to determine how long you are likely to live, which gives them an estimate of how long they have to earn a return on your premiums (life insurance or annuities) before they have to pay out. If your policy pays out $1,000,000 but they can make $2,000,000 from your premiums before they have to pay out, both you and they profited from the arrangement.  

You can also roll over most types of retirement plans into an annuity, which gives you the benefit of taking the retirement savings that you’ve already built up and putting them into this type of financial product. 

As mentioned above, there are some great annuities out there that can be incredibly beneficial, but there are others that are horrible financial deals. If this sounds like a type of financial product that you’d like to use, find a good advisor on AdvisorCheck to help you find one that is right for you. 

457(b) 

There are specific restrictions on who can use a 457(b) plan, but they can be great for those who qualify. These retirement plans are only available to local government employees (police, firefighters, EMS, teachers, etc), and must be employer-sponsored. I had one of these plans when I worked at one of the nation’s top University hospitals because it was a partially state-owned institution.  

These plans are similar to a 401(k) in that they are tax-deferred, and you can have part of your paycheck sent directly to your 457(b) plan every month. Unlike the 401(k), however, you won’t face a 10% early withdrawal penalty if you leave your employer before you turn 59 ½.  

The contribution limit for a 457(b) plan is $22,500 in 2023, but it also has a “catch-up” provision when you turn 50 years old. This provision is a little more complicated than in the other plans and must be permitted by your employer. If your employer does allow the catch-up, three years before your stated retirement age you may contribute the lesser of: 

• The elective deferral limit ($22,500 in 2023) 
• The basic annual limit plus the amount of the basic limit not used in prior years (only allowed if not using age 50 or over catch-up contributions) 

Employers can choose to match your contributions to the plan, but they don’t have to. Not all government employers offer a 457(b) plan, and some schools and non-profits offer 403(b) plans instead, which we’ll cover next. 

403(b) 

The 403(b) is a tax-advantaged retirement plan that may be available for public school and non-profit employees, as well as to some church ministers. 

The 403(b) is a defined contribution plan, which means that you define how much you choose to put in. These plans are very similar to a 401(k), and they come in three basic options: 

1. An annuity contract that is offered through a life insurance company 

2. A custodial account that invests in mutual funds 

3. A retirement income account for church employees that invests in mutual funds or annuities 

The employer can choose to match contributions, which can provide a tax advantage to the organization. These plans have a pretty great 15-year catch-up rule if you meet the requirements. If you have been with the same organization for at least 15 years and have contributed less than $5,000/year on average, your plan may provide the ability to add an additional $3,000 per year for 5 years. 

The contributions and distributions for a 403(b) are similar to the 401(k), and you may have one of these plans as well as a 401(k) or IRA.   

Make Sure You Have the Best Retirement Plan for You 

I meet far too many people whose eyes gloss over whenever the subjects of investments, finance, or their retirement come up in conversation. Of course it’s not a requirement that everyone knows the fine print and intricate details of different types of financial products. When the quality of life for your retired years can depend on making the right choices during your working life, however, it’s integral that people know the differences between plans, options, and terms to ensure that they’re making the best decisions for their long-term benefit. 

Entrepreneurs often go into business because they have a unique skill or idea that they want to bring to the world without having to work for someone else. Many are great at what they do but have no clue that there are special types of retirement plans built just for them that they can take advantage of.  

It’s important that you start saving for your retirement as early as possible, but it’s never too late to start. There are often strict requirements for how much you can contribute to certain plans, but there are also other options available to most if you have the ability to contribute more than those minimums.  

There are many different types of plans, and the specifics of them often change (contribution limits frequently change without much fanfare). Whether you want to know if there is a better plan that you can be taking advantage of, or if you are making the most of your current retirement plan, it is wise to sit down with a financial advisor found through AdvisorCheck to discuss your plan for the future. 

Your HR department may know the intricacies of your plan (if you work for a large company), but they aren’t likely to know (or even legally be allowed to discuss) how it fits into your greater investment portfolio, life plans, or retirement timeline. Your friends may offer advice, but in reality, you have no idea how well they’ve set up their own retirement plans. They may be luring you into a boneheaded decision right alongside them.  

To ensure that you are setting yourself up for success, sign up for the AdvisorCheck platform today to find a financial advisor near you that can help you appraise the best choices for your future. Nobody wants to get caught flat-footed and have to go back to work in their retirement years, and the right decisions made today can ensure that you never have to worry about that.  

Written by Robert Criger 

Fact checked by Billy Quirk 

Reviewed by KJ Kim 

Disclosure

The information provided in this article was written by the research and analysis team at AdvisorCheck.com to help all consumers in their financial journeys, by providing the resources and the insights to help improve one’s financial health, make it through recessionary and inflationary periods of time, and save their earnings to use them towards building a secure financial future. 

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