Nonprofit Organizations and 401(k) Plans

Historically, many nonprofits had and have 403(b) plans. Today, there are many similarities between 403(b) plans and 401(k) plans:

  1. Both plans have the same deferral limit ($18,500 for 2018)
  2. Both plans can have the protections and pre-emptions of ERISA
  3. Both plans can have the age 50 catch-up (currently $6,000) and can have Roth options
  4. Both plan types have access to quality investment options and similar, if not identical, fee structures
  5. Both have the same rules for employer contributions and the opportunity for such contributions
  6. Both may have loans and hardship withdrawals
  7. Both are required to have plan documents and, starting in 2017, Pre-Approved (by the IRS) documents for 403(b) are available and, by 2020 will be required
  8. Both now have IRS approved procedures and rules for plan termination

403(b) is still a favored choice for many nonprofit organizations:

  1. There is no deferral testing in a 403(b). This is a significant advantage and should be seriously considered by any eligible nonprofit considering a 401(k)
  2. A 15 Years of Service Catch Up may be advantageous for some 403(b) plans and is not available to 401(k)
  3. Churches are permitted significant variance in 403(b) plan coverage and class selection because these are not classified as ERISA plans (a “Non-Electing Church Plan”)
  4. There are Non-ERISA 403(b) plans. This classification is limited to plans without an employer contribution or any of the significant elements of control exerted by a plan sponsor in an ERISA plan. These plans do not have to file a 5500 or comply with other ERISA requirements. A 401(k) is, by definition, an ERISA plan.

Why would a Nonprofit choose a 401(k)?

  1.  A Nonprofit organization must qualify for a 501(c)(3) tax exemption in order to sponsor a 403(b). There are many other “501(c) organizations” and only a 501(c)(3) can sponsor a 403(b) plan. A 501(c)(6), for example, can have a 401(k) but not a 403(b). Football leagues and Chambers of Commerce are 501(c)(6) organizations.
  2. 401(k) plans are permitted to have eligibility rules and 403(b) plans, in general, are not. The “Universal Availability” laws which permit 403(b) plans to avoid testing deferrals also requires all employees (with limited exceptions) to be eligible to make deferrals in a 403(b) plan. A Nonprofit with 150 employees, 60 of whom routinely turn over within the first 12 months of employment, should consider a 401(k) plan. Use of a 12 month, 1000 hour eligibility for deferral in the 401(k) (not permitted in a 403(b)), would probably spare this employer an expensive audit required for all large plan filers.

Anything else?

  1. Any 501(c) Nonprofit can have a 457(b) plan and thereby increase benefit or deferral opportunities for the top 10% (or fewer) employees. These plans can accompany a 401(k) as well as a 403(b) or stand alone.
  2. If you are a 501(c )(3) organization, be cautious about plan design advice coming from your payroll service or any vendor who only has 401(k) in their product offering. There are significant advantages to 403(b) plans for qualifying employers and advice should be sought from consultants who offer both types of plan and have an objective “tool kit” with which to assist you.