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A 457 plan is a tax-advantaged retirement savings plan offered to employees of many state and local governments and some nonprofit organizations.
Like the better-known 401(k) plan in the private sector, the 457 plan allows employees to deposit a portion of their pre-tax earnings in an account, reducing their income taxes for the year while postponing the taxes due until the money is withdrawn after they retire. A Roth version of the 457 plan, which allows after-tax contributions, may be allowed at the employer's discretion.
The employees choose how their money is invested from a list of options, mostly mutual funds and annuities. Employees are allowed to contribute up to 100% of their salary, provided it does not exceed the dollar limit set for the year.
There are two main types of 457 plans:
As of 2023, employees can contribute up to $22,500 per year to 457 plans. This limit increases to $23,000 for 2024.
In some cases, workers are allowed to contribute even more. For example, if an employer permits catch-up contributions, workers over the age of 50 may pay in an additional $7,500 a year, making their maximum contribution limit $30,000 ($22,500 + $7,500) in 2023. The catch-up contribution remains at $7,500 for tax year 2024, making the maximum contribution limit $30,500 ($23,000 + $7,500).
457(b) plans feature a "double limit catch-up" provision. This is designed to allow participants who are nearing retirement to compensate for years in which they did not contribute to the plan but were eligible to do so.
In this case, employees who are within three years of retirement age may contribute up to $45,000 in 2023 and up to $46,000 in 2024.
The 457(b) plan has all of the advantages of a 401(k), although there are some differences.
Tax Benefits
If a traditional rather than a Roth plan is chosen, the contributions are deducted from an employee's paycheck on a pretax basis. That amount is subtracted from the employee's gross income, effectively lowering the person's taxes paid for that year. For example, if Alex earns $4,000 per month and contributes $700 to a 457(b) plan, Alex's taxable income for the month is $3,300.
All interest and earnings generated from year to year remain untaxed until the funds are withdrawn.
Withdrawals Without Penalty
There's one big difference between the 457(b) and other tax-advantaged retirement plans: there's no penalty for early withdrawals in some circumstances.
If an employee retires early or resigns from the job for any reason, the funds can be withdrawn without incurring a 10% penalty from the Internal Revenue Service (IRS). Early withdrawals from most retirement plans are subject to the penalty except for certain hardship reasons. (The penalty was waived for two years during the COVID-19 pandemic.)
A 457(b) account holder can take a penalty-free withdrawal without changing jobs, like a 401(k) account holder. The list of acceptable reasons, however, is limited to "unforeseeable emergencies."
Exceptions to the Rules
Early withdrawals from a 457(b) are subject to the 10% penalty if the account holder rolls the funds over from a 457 to any other tax-advantaged retirement account, such as a 401(k). This would happen if, for example, a government employee quit to take a job in the private sector.
In addition, anyone who takes money out of a retirement account early must keep in mind that any income taxes due on that money will be owed in the year that the withdrawal is taken.
One potential advantage of most tax-advantaged retirement savings plans is the employer match. An employer may choose to match some portion of an employee's contribution to the plan.
Employer Match Is Rare
Employers can match their employees' contributions to a 457(b) but, in practice, most don't.
If they do, the employer contribution counts toward the maximum contribution limit. This is not the case for 401(k) plans.
For instance, in 2023, if an employer contributes $10,000 to a 457(b) plan, the employee can add only $12,500 for the year until the $22,500 contribution limit is reached (except for those eligible to use the catch-up option).
The 403(b) plan, like the 457(b), is primarily available to public service employees, such as public school teachers.
The 403(b) has its origins in the 1950s, when it exclusively offered an annuity to participants. Participants still have the option of creating an annuity, but they can also choose to invest in mutual funds. Now the 403(b) closely resembles the private sector's 401(k) plan.
The annual contribution limits are identical to those of 457(b) and 401(k) plans.
Dan Stewart, CFA®
Revere Asset Management, Dallas, Texas
457 plans are taxed as income similar to a 401(k) or 403(b) when distributions are taken. The only difference is there are no withdrawal penalties and that they are the only plans without early withdrawal penalties. But you also have the option of rolling the assets in an IRA rollover. This way, you can better control distributions and only take them when needed.
So if you take the entire amount as a lump sum, the entire amount is added to your income and may push you into a higher tax bracket.
With the rollover route, you could take out a little this year, and so on as needed, thus controlling your taxes better. And while it remains inside the IRA, it continues to grow tax-deferred and is protected from creditors.
The 457(b) plan is a version of the 401(k) plan that is designed for public and nonprofit workers. It helps employees save for retirement while deferring the tax bill until they retire and start withdrawing the money. (The Roth version, which is available only at the employer's discretion, takes the taxes upfront, so no taxes are due on qualified withdrawals.)
The 457(f) plan is also known as a Supplemental Executive Retirement Plan (SERP). It is a retirement savings plan for only the highest-paid executives in the tax-exempt sector. They are mostly employed in hospitals, universities, and credit unions.
A 457(f) is a supplement to a 457(b). Employers make additional contributions to the employee's account, beyond the usual limits. Negotiated by contract, a 457(f) is essentially a deferred salary adjustment.
If the executive resigns before an established vesting period is over, the 457(f) contribution disappears. The plan is intended as an executive retention strategy, commonly known as "golden handcuffs."
For all intents and purposes, a 457(b) is just as good as a 401(k) plan.
Assuming you opt for a traditional plan rather than a Roth plan, you'll be lowering your taxable income from year to year while plunking that money into a long-term investment account. The money won't be taxed until you retire and start taking withdrawals.
(If it's a Roth, you'll pay the taxes upfront and usually will owe no taxes on the money you deposited or the profits it earns over the years.)
On the downside, with a 457(b), your contributions will probably not be matched by your employer. But that's just a reality of working in the nonprofit or public sector, not a rule of the plan.
And consider supplementing these savings with an individual retirement account (IRA). For 2024, if you're under 50, the maximum you can contribute to an IRA is $7,000. If you're 50 or older, it's $8,000.
One advantage of a 457(b) is that you can take early withdrawals without paying a tax penalty for any "unforeseeable emergency." This isn't typically a good idea, since you're plundering your retirement savings, but unforeseeable emergencies do happen. And remember, you'll owe income tax for that year on the amount you withdraw.
Separately, the required minimum distribution (RMD) you must take is determined by an IRS worksheet. An RMD is a minimum amount that must be withdrawn from certain retirement plans, like a 457(b), each year once you reach a certain age. If you were born between 1951 and 1959, that age is 73. If you were born in 1960 or after, that age is 75. This is an increase from the previous age of 72.
A 457 plan is similar to a 401(k), but it's for employees who work in the public sector. It's most often offered to civil servants and other employees of government agencies, public services, and nonprofit organizations such as hospitals, churches, and charitable organizations.
The traditional version of this tax-advantaged retirement savings plan uses pretax contributions, whereas the Roth version uses post-tax contributions.
If you have questions about your plan, contact your organization's human resources department or reach out to your plan administrator.
