What Is a 403(b)(7) Custodial Account?

A 403(b)(7) custodial account is a retirement plan for eligible professionals, offering tax advantages for long-term financial growth. It uses a custodial account to hold investments, primarily in mutual funds, managed by a third-party custodian like a bank or mutual fund company.

Understanding the 403(b)(7) Custodial Account

In this arrangement, a third-party custodian, such as a bank or mutual fund company, holds the assets for the benefit of the employee. A distinguishing feature of a 403(b)(7) is that the funds within the account are invested exclusively in mutual funds.

Eligibility for 403(b) plans extends to employees of public educational institutions, including K-12 schools, colleges, and universities. Certain 501(c)(3) tax-exempt organizations, such as hospitals and charitable groups, also offer these plans to their employees.

The primary tax advantage of a 403(b)(7) is tax-deferred growth. Contributions are made on a pre-tax basis, deducted from an employee’s salary before taxes. This reduces current taxable income and allows investments to grow without annual taxation, with taxes due only upon withdrawal in retirement. Some plans offer a Roth 403(b) option, allowing after-tax contributions to grow and be withdrawn tax-free in retirement.

While 403(b) plans include options for annuity contracts (403(b)(1) plans), the 403(b)(7) specifically designates a custodial account for mutual fund investments. This means savings are held in a custodial arrangement focused on mutual funds rather than annuity products.

Contributing to a 403(b)(7)

Contributions to a 403(b)(7) account are primarily made through pre-tax salary deductions. The IRS sets annual limits on these employee deferrals. For 2025, the employee contribution limit for 403(b) plans is $23,500.

Employers can also contribute to a 403(b)(7) plan, through matching or non-elective contributions. Total annual additions to a participant’s account, including both employee and employer contributions, are subject to an overall limit. For 2025, this limit is the lesser of $70,000 or 100% of the employee’s includible compensation.

Catch-up contribution provisions allow eligible individuals to save additional amounts beyond standard limits. Employees age 50 or older can make an additional catch-up contribution. For 2025, this age-based amount is $7,500, increasing the total employee contribution limit to $31,000 for those eligible. Individuals aged 60, 61, 62, or 63 in 2025 may be eligible for an even higher catch-up contribution of $11,250.

The 15-year rule catch-up is another provision specific to 403(b) plans. An employee with at least 15 years of service with the same eligible employer may contribute an additional $3,000 per year, up to a lifetime maximum of $15,000. This is available if prior contributions were below a certain threshold. When both age-based and 15-year catch-ups apply, the 15-year rule amount is applied first.

Accessing Your 403(b)(7) Funds

Accessing 403(b)(7) funds involves specific timing and taxation rules. Distributions taken after age 59½ are normal distributions and not subject to early withdrawal penalties. Withdrawals from traditional (pre-tax) 403(b)(7) accounts are taxed as ordinary income.

Withdrawing funds before age 59½ incurs a 10% early withdrawal penalty, in addition to regular income taxes. The IRS provides exceptions to this penalty, including separation from service at or after age 55, total and permanent disability, or death. Other exceptions include substantially equal periodic payments, qualified higher education expenses, first-time home purchases up to $10,000, or unreimbursed medical expenses exceeding a certain percentage of adjusted gross income.

Required Minimum Distributions (RMDs) mandate withdrawals from traditional 403(b)(7) accounts once account holders reach a certain age. RMDs begin at age 73. Failure to take the required amount by the IRS deadline can result in a significant penalty, typically 25% of the amount that should have been withdrawn.

Many 403(b) plans, including 403(b)(7)s, permit participants to take loans from their accounts. The maximum loan amount is the lesser of 50% of the vested account balance or $50,000, with repayment required within five years, or up to 15 years for a primary residence. If a loan is not repaid, the outstanding balance may be treated as a taxable distribution and could be subject to the 10% early withdrawal penalty if the participant is under age 59½.

When changing employers or retiring, individuals can roll over 403(b)(7) funds into other qualified retirement accounts, such as another 403(b), a 401(k), or an Individual Retirement Account (IRA). This process can be a direct rollover, where funds transfer directly between custodians, or an indirect rollover, where funds are distributed to the individual first, who then has 60 days to deposit them into the new account. Direct rollovers are recommended to avoid potential tax withholding and ensure seamless transfer.