Misconceptions about 403(b) Plan Compliance

April 29, 2011 (PLANSPONSOR (b)lines) - In the aftermath of the IRS 403(b) regulations and Department of Labor guidance, 403(b) plans look more similar to their 401(k) counterparts.

However, an employer sponsoring a 403(b) plan should not jump to the conclusion that similar rules mean these two plan types always operate identically.  Whether you are a plan sponsor or a plan service provider, familiarize yourself with the operational requirements of 403(b) plans so that you are able to separate fact from fiction.    

Fiction:  Employee deferrals under a 403(b) plan are subject to ADP testing.   

Fact:  ADP tests do not apply to 403(b) plans.   

A 401(k) plan’s ADP test looks at the deferral ratios of highly compensated employees and non-highly compensated employees to determine if the plan impermissibly discriminates in favor of those who are highly compensated.  If so, the plan must take corrective measures to ensure that the IRS nondiscrimination requirements are satisfied.    

There is no analogous test for 403(b) plans. Instead, employee deferrals and any Roth 403(b) contributions made to the 403(b) plan will be considered nondiscriminatory if the IRS’ universal availability requirement is met.  Under that rule, all eligible employees must have the opportunity to make pre-tax deferrals (and, if permitted by the plan, Roth 403(b) contributions) of at least $200 annually if at least one employee has that opportunity and the employer notifies its eligible employees (whether or not currently participating) at least once a year of the opportunity to participate in the 403(b) plan.    

The plan document may define eligible employees to exclude the following employee classifications:   

  • Nonresident aliens with no U.S. source income; 
  • Certain student employees (which may occur if the employer is a higher education institution); 
  • Employees who participate in another 403(b), 401(k), or (if the employer is a governmental entity) 457 deferred compensation plan of that employer; or 
  • Employees who normally work less than 20 hours per week. 


If the universal availability rule is satisfied, any employee eligible to participate in the 403(b) plan can contribute the full annual deferral limit (which, in 2011, is $16,500 before any available catch-ups). Separately, the Internal Revenue Code deems 403(b) contributions to plans sponsored by churches and certain church-affiliated organizations to be nondiscriminatory without regard to the universal availability requirement.   

Fiction:  Employee Retirement Security Act (ERISA)-governed 403(b) plans sponsored by 501(c)(3) nonprofit organizations can change their ERISA status.   

Fact:  The DoL has not published formal guidance allowing a “do over” for ERISA 403(b) plans to change their status back to operating under the DoL’s non-ERISA safe harbor.     

DoL guidance published to date indicates that once a 501(c)(3) organization has been involved in the 403(b) plan on more than a ministerial basis or its 403(b) plan does not have a reasonable choice of investments, that plan is subject to ERISA.    

As a reminder, plans sponsored by public schools (including public colleges and universities) are always non-ERISA due to statutory exemption for plans of governmental employers.  Additionally, 403(b) plans sponsored by church organizations are also non-ERISA under the statutes unless the employer makes a voluntary irrevocable election to have the ERISA provisions apply to its 403(b) plan.

Fiction:  All 403(b) plans must file a Form 5500.  

Fact:  Only those 403(b) plans subject to ERISA must file a Form 5500 (“Annual Return/Report of Employee Benefit Plan”).    

That means that an employer will not need to complete a Form 5500 for its 403(b) plan if  the sponsor is a public school, a church-affiliated entity (unless it has elected into the ERISA provisions), or a 501(c)(3) organization whose 403(b) plan meets the DoL’s non-ERISA safe harbor criteria.    

Fiction: All ERISA 403(b) plans need an independent auditor report.   

Fact:  Only those ERISA 403(b) plans with at least 100 participants at the beginning of the plan year must include an independent auditor’s report along with the Form 5500 filing.     

This is one instance whether the rules for 401(k) and 403(b) sponsors are identical.  For these purposes, a “participant” in the 403(b) plan includes active participants, retired or terminated participants receiving benefits from the plan in a form other than an annuity, terminated participants who have deferred taking a distribution from the plan, and deceased participants whose beneficiaries are receiving or are entitled to benefits from the plan (again, unless that benefit payment is an annuity payout).   

Fiction: A 403(b) plan can be terminated in all circumstances.   

Fact:  While the IRS regulations give the employer authority to terminate a 403(b) plan, practical considerations may prevent plan termination from occurring, including the following: 

  • If the employer is a public school, state/local law authorizes whether the 403(b) plan can be terminated; 
  • The 403(b) plan is part of any current collective bargaining agreement with the employer; or 
  • All the investment products under the 403(b) plan recognize plan termination as a distributable event.   



While comparing your 403(b) plan to a 401(k) plan can be helpful in many situations, there may also be potential traps for the unwary.  Understanding what compliance rules apply to your 403(b) plan — and, if needed, working with an adviser or vendor that knows these nuances — helps keep your plan running smoothly while avoiding any unnecessary costs.    

Linda Segal Blinn, J.D., is Vice President of Technical Services for ING’s U.S. Retirement Services. In this capacity, Blinn supervises the provision of legislative, regulatory, and compliance information to assist employers in operating their retirement plans.  A contributing author to several publications, Blinn also speaks frequently at industry associations meetings on retirement plan issues facing K-12 schools, higher educational institutions, and nonprofit entities. 


(This material was created to provide accurate information on the subjects covered.  It is not intended to provide specific legal, tax or other professional advice. The services of an appropriate professional should be sought regarding your individual situation.  These materials are not intended to be used to avoid tax penalties, and were prepared to support the promotion or marketing of the matters addressed in this document.  The taxpayer should seek advice from an independent tax adviser.)