A 403b plan is a supplemental retirement plan offered to teachers and non-profit workers. These plans generally use annuities inside the plan but are not strictly limited to them. When you retire in Pennsylvania, you should understand how the state treats these plans in regard to income tax, since it is different from the national treatment of 403b plans.
The state of Pennsylvania does not tax retirement income, provided you meet the requirements set forth by the state. You must have at least one year of service with your employer or have reached the retirement age specified for the 403b plan. This age is 59 1/2. As long as one of these conditions is met, you do not claim your retirement income on your tax return.
Because your state 403b plan is not taxable, if you meet the conditions you receive more income than you otherwise would receive. While Pennsylvania is not an income tax-free state, it becomes one for you as a retired teacher or non-profit retiree. This, combined with your Social Security income, provides you with two tax-free income sources instead of just one.
While Pennsylvania does not tax 403b plans, the federal government does. You must file and report your income on your federal tax return. Your 403b income is taxed at ordinary income tax rates at the federal level. Depending on the level of your 403b income, your Social Security income may also be subject to federal tax. If your 403b income plus one-half of your Social Security exceeds $25,000 when filing as an individual, or $32,000 as a married person filing jointly, then 50 percent of your Social Security income is subject to income tax. If your income is $34,000 filing individually or $44,000 married filing jointly, then up to 85 percent of your Social Security is subject to income tax.
To completely avoid income tax at both the Pennsylvania state level and the federal level, you should consider requesting Roth-designated contributions to your 403b plan. Alternatively, you may convert your 403b plan to a Roth IRA when you retire. Roth designated contributions are after-tax contributions to a 403b plan or IRA. When you retire, your distributions are income tax free, as long as you've held the account for at least five years and are at least 59 1/2 years old.