The accounts millions of nonprofit workers and teachers use to save for retirement should begin looking a lot more like private-sector 401(k) plans under a recently passed law, a development welcomed by plan advisers looking to tap new markets in 2023.
Congress included 403(b) retirement plans reserved for tax-exempt organizations in many of the retirement access and boosted savings measures it passed last month as part of a sweeping, $1.7 trillion omnibus spending bill. Pooled retirement accounts once reserved for the much larger share of 401(k)s were OK’d for 403(b)s, and lawmakers put in place similar regulatory controls to find parity between the two savings systems.
SECURE 2.0 Act (Pub.L. 117–328) stopped short of permitting nonprofit participants and beneficiaries to access collective investment trusts, despite pressure from asset managers such as BlackRock Inc., and State Street Corp. who increasingly are marketing CITs to the rest of the retirement services industry. Critics say it’s a missed opportunity to give nonprofit workers the same advantages their for-profit counterparts enjoy.
Broader access to emerging savings strategies is a relief to a small but consequential sector of the retirement market whose workers earn less money on average than other private-sector employees. SECURE 2.0 Act changes to 403(b)s are expected to foster more opportunities for workers to save and easier access for advisers who have steered clear of the complex nonprofit tax code for years.
“This is a very deliberate effort to bring two parts of the tax code into compliance with each other,” said Tara Sciscoe, an Ice Miller LLP partner in Indianapolis. “I think it is good to open up available investment and savings options to 403(b) plans and to put those people in the same playing field. It makes saving for retirement more cost-effective for everybody.”
Changing History
Disparity between 401(k)s and 403(b) plans is rooted in their history, Sciscoe said. The latter, still known to this day as a tax-sheltered annuity plan, was initially designed as a retail product for which employers would simply subtract premiums from their workers’ paychecks.
For years, 403(b)s took a hands-off approach that began to change once the Employee Retirement Income Security Act of 1974 (Pub.L. 93-406) set fiduciary standards for the employers that offered worker benefits. The law split 403(b) plans according to their ERISA and non-ERISA coverage, exempting government entities and churches. Soon enough, plans were adding investment options alongside annuities, said Joel Mee, senior director of retirement plan sales at StanCorp Financial Group Inc.
Advisers, attorneys, and other financial professionals who make a living helping 401(k)s navigate the complex web of 401(k) regulation and litigation haven’t been so quick to adopt 403(b)s. Just over half of tax-exempt plans work with a financial professional to offer retirement options, according to the Plan Sponsor Council of America.
“It’s fear of the unknown,” Mee said. “There’s this sense in the industry—’Why should I learn a whole different tax system and Labor code?’ That leaves nonprofit workers underserved. I really think SECURE 2.0 is going to change that.”
SECURE 2.0 mentions 403(b) plans in the same breath as 401(k)s, Mee added. Many of the automatic enrollment and emergency savings provisions in the law affect all pensions, bringing nonprofit workers the same kinds of relief as the rest of the industry.
Collective Trusts
Proposed legislation that helped form the foundation of SECURE 2.0 would have allowed 403(b) plans to invest in collective investment trusts, a growing sector of the retirement saving space that allows firms to market financial products that look like mutual funds but escape traditional US Securities and Exchange Commission regulations.
In the end, CITs were a step too far for lawmakers rushing to make a deal to avoid a government shutdown, said Michael Kreps, a Groom Law Group Chartered principal and former Democratic Senate committee member who is familiar with discussions leading up to the bill’s passage.
“There’s a belief in some far-left circles that it wasn’t a good idea to carve out CITs from securities laws in the first place,” Kreps said. “The omission is less of a critique of 403(b)s and more of a critique of the defined-contribution retirement system and a debate over what consumer protections CITs should be subject to.”
Many tax attorneys told Bloomberg Law that 403(b) investments in CITs may be inevitable, since they’ve already captured nearly half of total large 401(k) plan assets, according to an Investment Company Institute and Brightscope survey. But until Congress makes 403(b) plan investments completely equitable with 401(k)s, participants and beneficiaries may lack options.
“If you look at the people who have historically worked in 501(c)(3) institutions, they don’t make a lot of money,” said Scott Rahn, founding partner at RMO LLP in Los Angeles. “They do it for the right reasons. They do it to help the world and help fund their communities. By treating their retirement accounts differently, you’re artificially deflating or limiting someone who probably has a limited ability to save for retirement in the first place, which forces them into government benefits.”