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Nonprofit Retirement Plans: Defined Benefit or Contribution?

Financial Planning PEPs Regulatory Updates

Key Takeaways

  • Nonprofits have primarily used 403(b) retirement plans in the past.
  • 403(b) retirement plans have limited investment options: annuities or mutual funds.
  • Following the implementation of SECURE 2.0 Act, nonprofits can sponsor a Pooled Employer Plan (PEP).
  • PEPs allow nonprofits to cut administrative costs, have continuous growth in their investments, and aggregate their assets with other nonprofits and for-profit businesses to maximize retirement savings.

Only 23% of 403(b) retirement plans are covered by the Employee Retirement Income Security Act (ERISA), according to PLANSPONSOR.

A 403(b) is a retirement plan used by nonprofits: religious/ charitable organizations, primary or higher education institutions, some government entities, and not-for-profit healthcare organizations.

ERISA was implemented in 1974 to protect the retirement plan assets of workers and hold the fiduciaries of retirement plans accountable to certain compliance standards and regulatory oversight by the U.S. Securities and Exchange Commission and U.S. Department of Labor. A plan that is not covered by ERISA is considered not qualified, in other words not subject to certain regulatory oversight and legal protections.

Being that the entities that use 403(b) plans are non-profits, stocks and REITs are prohibited from the plan's investment portfolio; it was only recently that mutual funds were permitted as investment options in 403(b) plans. In the past, most 403(b) plans were funded through variable annuity contracts- a defined benefit plan instead of a defined contribution plan. Variable annuities are NOT guaranteed, and fluctuate with market risk; they are only as "good" as the insurance company issuing them. "There's no commingling of their assets. Each participant has their own account and their own contract”, meaning the plan's assets don't aggregate and grow, as they do in a defined contribution plan.

That said, 403(b) plans must still adhere to the same contribution limits of 401(k) plans, $22,500/ year for the 2023 tax year. 403(b) plans are also tax-deferred, and only taxed when the money is withdrawn. Depending on the administrative aspects of the 403(b), they may also be more or less expensive than a 401(k) plan- but certainly less secured than a 401(k) plan, and do not offer the same legal protections.

Following the passage of the SECURE 2.0 Act, non-profits were permitted to use Pooled Employer Plans (PEPs)- meaning nonprofits and for-profit organizations could grow their retirement assets together, cut down on the administrative burdens/ costs, AND are legally protected as a qualified plan under ERISA.

We have partnered with Southland Data Processing, Inc. to ensure that non-profit organizations know they are not limited to a singular, and somewhat dated kind of retirement plan. Much like us they value the possibility of growth within a PEP, rather than accepting the norm of variable annuities/ defined benefit plans with set payouts. Whether or not you are a nonprofit we invite you to get in touch with us, or Southland Data Processing, Inc., to discuss your retirement needs:

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