The 457f and 457b deferred compensation retirement plans are offered exclusively to non-government, tax-exempt organizations. These organizations can offer a non-qualified deferred compensation plan to a select group of highly-compensated employees in the company or to their key management employees.
In the United States, these plans are sometimes offered to public employees, such as police officers, firefighters, or civil servants.
These benefits are available to these select employees outside the restriction eligibility, vesting, and contribution limitations of ERISA.
The 457f and 457b plans are allowed to work independently of one another or may work in conjunction with each other.
In the 457b, participants and the plan sponsor are permitted to make contributions which are in excess of retirement plan limitations, up to its annual limits.
With the 457f, only the organization is permitted to make discretionary contributions. Participant contributions are not permitted.
How Does the 457b Plan Help You Save for Retirement?
In many ways, the 457b plan is designed to work like a 401k does. It is a plan that is offered through the employer, with contributions taken from the paycheck on a pre-tax basis. That lowers the taxable income for the worker. Within the plan, you can then invest your contributions into mutual funds and there are usually several options from which to choose.
Any earnings or interest that builds within the plan from the contributions and investments are not taxed until qualified withdrawals at retirement occur.
As an advantage over the 401k or 403b, if you leave a job or retire before the age of 59.5, you don’t pay a 10% penalty fee to access your funds. That makes it more attractive for those who tend to move from job to job quite often.
Here are some of the features to expect with the 457b plan.
- You are able to contribute up to $18,000 to the plan over the course of the year.
- Catch-up contributions of an additional $6,000 are permitted for workers who are 50 years of age or older.
- For workers who are within 3 years of their retirement age, up to $36,000 may be allowed in contributions.
- The amount contributed to a 457b plan is not permitted to exceed 100% of your total salary compensation.
- You can contribute to a 457b plan and a 457f plan simultaneously, which means if you are within 3 years of retirement, you could potentially store $72,000 into them in a single year.
- Employers are permitted to match the amount you contribute to a 457b plan up to a certain limit.
Offering a 457b plan is not required in the United States. It is important to remember that earnings are tax-deferred with this plan, so you will be responsible for taxes upon withdrawal. This counts as income for the tax year when the withdrawal takes place, so there is the possibility that taking income from the 457b plan could push you into a higher tax bracket than where your income places you now.
One advantage to the 457b plan is that the governmental plans can be amended to permit designated Roth contributions, or in-plan rollovers to designated Roth accounts, which may help some individuals limit their tax liabilities. Because Roth dollars are post-tax monies, they are typically withdrawn without a tax fee.
You are also permitted to take distributions from your 457b plan if you have an unforeseeable emergency which requires you to have extra financial resources available to you.
The current list of provisions for unforeseeable emergency distributions includes an illness or accident of the participant, the beneficiary, or the spouse and dependents of the participant or beneficiary; property loss caused by casualty; funeral expenses, or something that is extraordinary resulting from events that are beyond personal control.
You cannot pay credit card debt with an emergency distribution. You could pay for water damage to your home that is not covered by your current homeowners’ insurance policy.
How Does the 457f Plan Help You Save for Retirement?
Many of the benefits that come with a 457f plan are similar to the benefits of the 457b plan. One advantage here is that if an employee works for a tax-exempt organization and qualifies for both plans, they can save $36,000 into a retirement plan which functions in a similar way to a 401k in just one year, even if they are under the age of 50.
There are some drawbacks to consider with the 457f plan as well. One of the features that is common with this plan is vesting.
Vesting is a schedule where contributions that are made by the employer are deferred to a later date. You might receive a 10% match on your $18,000 contribution, a total of $1,800, but a 5-year vesting period means the payment of that benefit is deferred until 5 years from now.
What many employers and employees do not realize is that because the 457f plan is a tax-deferred plan, the benefits are subject to income tax upon vesting. If amounts have become vested in the plan and these are not reported to the IRS as part of the annual tax filing, then individuals and employers may be liable for interest and penalties related to the payment.
Here are some of the features that you’ll find with the 457f plan.
- This is considered a top-hat plan, which means it is permitted only to cover top-paid groups or specific employees within an organization.
- No rollovers are permitted in the 457f plan, which is different than the 457b plan.
- Government plans must have assets in a trust, and the trustee must be either a bank or an IRS-approved non-bank asset.
- Contributions to the 457f plan are reported on the W-2 as wages, even though this plan is used as a way to defer income.
With the exception of the rollover issue, the structure of the 457f plan functions in a similar way to the 457b plan.
Advantages of the 457 Plans to Consider
In theory, an employer can provide a direct match to the contributions made by an employee to the 457b plan. That means if they contribute their full $18,000 limit for the tax year, the employer could kick in the entire yearly limit as well.
Unfortunately, for most state and local government employees, any matching benefit is rare. Even a 10% match, for most employees, would be highly unusual. Most matches are in the 4% or less category for this retirement savings plan.
The reason for this is because many government employees have access to a pension, which is becoming uncommon in the for-profit workforce. That designates the 457 plans as a supplemental savings plan, which is slightly different than the 401k or 403b plans that are more common.
Then there is the benefit of the catch-up, which is the true advantage of the 457 plans. For the 2017 tax year, is someone planned to retire at 51, they could begin the catch-up process at age 49. You are not bound by the traditional rules of retirement here for contributions.
Then you could contribute up to $36,000 in your 457b or 457f, or more realistically, $18,000 and the sum of whatever money you didn’t put into the plan, but could have put in there during previous years.
Disadvantages of the 457 Plans to Consider
Most companies in this position will offer employees a 403b plan because they are a tax-exempt (not-for-profit) organization or a governmental organization. Most people work for a for-profit, private employer.
You cannot qualify for either 457 plans if your employer is a for-profit agency.
To qualify for the 457b plan, you must be an employee of the state or local government – or a non-profit organization, like the local school district, a hospital, or a developmental disabilities service provider.
The 457b plan is a non-qualified retirement plan as well, so you do get the benefit of avoiding the 10% early withdrawal penalty. That also means an employer is not required to supply employees with detailed information about their retirement savings plan. There are several other protections built into the 403b plan, such as protections against employer denials, that are not available.
Eligibility for the 457f plan is even more difficult. Employers must specifically designate employees who qualify for this plan. It is almost always reserved for the executive leadership team or high-ranking members of a governmental agency. A detective in the local police district might qualify for the 457b, but the police chief might qualify for both plans.
A Final Thought on 457f and 457b Plans
The structure of the 457 plans is based on the needs of civil servants. Most police and fire department employees were participants, especially when these plans were first introduced. Retiring early, on a disability, would have created financial penalties for workers if the exemption for early distribution was not included.
Of course, unless you absolutely need the money in retirement, keeping it in a tax-sheltered account is almost always to your advantage.
By understanding the differences of both plans and how they compare to the 401k and 403b, you an know if this supplemental savings option is right for you.