If you work at a non-profit organization, you might be able to contribute to a 403b plan to save for your retirement. These plans offer you the ability to invest in annuities and mutual funds in a tax-sheltered account. In addition, the money contributed to the account comes from pretax dollars.
Contribution Process
Contributions that you make to your 403b plan come directly out of your paycheck, so the money goes directly into your account rather than being paid to you and then you making the contribution to your account. For example, if your monthly pay is $2,800 but you have elected to put $200 in your 403b plan, the $200 is taken out so your monthly pay would only be $2,600. Your take home pay will decrease by less than $200 because your income tax withholding is based on $2,600 instead of $2,800.
Reporting 403b Contributions
You cannot claim a tax deduction for your 403b plan contributions on your income taxes like you would with contributions made to a traditional IRA because the deduction is already figured by your company. This adjustment will be apparent on your W-2 form that you receive at the end of the year showing your income for the year. For example, if you contribute $3,000 and your total income for the year equals $45,000, your W-2 form will only show a total income of $42,000.
Effects on Your Taxes
It makes no difference on the amount of income taxes you owe whether you make a contribution to a traditional IRA or to a 403b plan, only the reporting is affected. For example, if you have $40,000 in salary and contribute $4,000 to a 403b plan, your W-2 form will only show $36,000 in income so you would only have to report $36,000 in income on your taxes. If you had instead put that $4,000 in a traditional IRA, your W-2 form would show $40,000 in income, but you would be able to claim a $4,000 deduction so your total taxable income would only be $36,000.
Payroll Taxes
Contributions made to your 403b plan will not reduce your payroll tax liability, only your income tax liability. Payroll taxes include the Social Security tax and the Medicare tax. When you get your W-2 form, you will see that the amount of income subject to federal income taxes is less than the income subject to these payroll taxes.