Exploring Tax Advantages of Retirement 403(b) Plans for Ministers

Exploring Tax Advantages of Retirement 403(b) Plans for Ministers

While it is true that ministers, and other church employees, may earn less than those performing similar jobs requiring similar skills in the secular world, there are unique tax advantages that can help offset the compensation differences. One of the greatest advantages for church workers is the 403(b) retirement plan.

There are several tax advantages for church employees participating in a 403(b) retirement plan sponsored by either the worker’s employing church or through a denominational pension board:

Nontaxable Contributions:

First, the plan allows church employees to make retirement plan contributions that are nontaxable in the tax year in which they are contributed. The employee may make contributions through salary deductions, or by direct contributions. The church employer may offer to match employee contributions up to a certain percentage. All of this is permissible without paying tax, up to an annual contribution limit.

Tax-Deferred Increases:

Second, the plan allows the contributed funds to be invested in certain types of funds. Any increases that are realized by the employee’s retirement account investments are tax-deferred. No tax will be paid on these increases until the time in which they are withdrawn from the account, which is ideal after retirement.

Tax Credits:

Third, those who make contributions to a 403(b) plan may be eligible for an annual tax credit for contributions that are made via salary deductions.

Minister’s Housing Allowance:

Fourth, ministers may qualify to have a portion of the distributions shielded from taxes as a designated minister’s housing allowance, even after retirement under 403(b)(9). Churches or church pension boards may designate a portion of a retired minister’s annual distribution as a clergy housing allowance. To the extent that the retired minister uses those designated proceeds for appropriate housing expenses, they are not subject to federal taxes. This is a tremendous tax advantage for ministers in that it potentially allows for a significant portion of their 403(b)(9) contributions to never be subject to taxation, unlike many other kinds of retirement plans which are subject to taxation either in the year the funds are contributed, or in the year that the funds are distributed. Ministers who take advantage of a 403(b)(9) account may therefore receive significant tax savings.

While many aspects of a 403(b) retirement account are appealing, it is very important to work with a professional who understands the details of setting up a minister’s 403(b) plan, and who also understands the precise requirement of properly managing the 403(b) plan to ensure that the maximum tax benefits are realized by its participants and that later taxes and penalties are avoided.

It is also worth noting that some financial planning professionals may attempt to persuade ministers to invest in other types of retirement accounts, which may lead a minister to miss out on some of the potential tax advantages discussed above. Ministers should ensure that any financial planning professionals utilized understand the significant benefits of a 403(b) retirement plan.

This information is provided with the understanding that Payroll Partners is not rendering legal, human resources, or other professional advice or service. Professional advice on specific issues should be sought from a lawyer, HR consultant or other professional.