Did Sally the Teacher really know how
her 403(b) worked?

Here is the story of Sally the Teacher. When Sally was 30 years old and on the advice of a 403(b) salesperson, she started saving $200 a month ($2,400 a year) in a Qualified 403(b) plan for 30 years. She earned 8% a year in her plan and at age 60 she had accumulated $300,000.

Sally was told by the 403(b) salesperson that one of the big advantages of the 403(b) would be the tax savings. She was in a 25% tax bracket; so, she saved $600 a year in a taxes on the $2,400 that she saved each year. Over 30 years Sally saved $18,000 in taxes.

Now that Sally is retired, she does not want to spend any of the $300,000 in hear plan. She just wants to live off of the 8% interest or $24,000 a year her plan earns. At this time there are no longer any children at home and her mortgage is low or paid off; so, that means she is still in a 25% or higher tax bracket. She will pay taxes on the $24,000 at a rate of 25%, which is $6,000, leaving her $18,000 a year.

Remember the $18,000 Sally saved in taxes over the 30 years she invested in that 403(b) plan? In 3 years, she will pay taxes equal to the $18,000 it took her 30 years to save. ($18,000 divided by $6,000 equals 3 years) She will have to pay that $18,000 in taxes every 3 years. If she lives 25 years to age 85, she will pay $150,000 in taxes versus the $18,000 in taxes it took her 30 years to save.

When she passes away, her spouse will pay $18,000 every 3 years. When the spouse passes away, their children will pay $18,000 every 3 years, plus 25% or more on the $300,000 balance in the 403(b) account.