What is a 457 plan?
A 457 plan gets its name from the Internal Revenue Code (IRC) Section 457, which establishes the plan. A 457 plan provides another option for employees to reduce their taxable income while simultaneously setting aside money for their future retirement. Generally speaking, a 457 plan is a type of deferred compensation retirement plan that allows employees to contribute on a pre-tax basis similar to a 401(k) or 403(b) plan.
Who can establish a 457 plan?
Not every type of employer can adopt a 457 plan on behalf of their employees. Instead, 457 plans are available for employees of state and local government, government agencies, and tax-exempt 501(c) organizations.
What types of 457 plans are available?
457 plans can be either “eligible plans” under IRC 457(b) or “ineligible” plans under IRC 457(f).
Are there contribution limits for 457 plans?
Yes, there is a contribution limit for 457(b) plans. Employees generally participate in a 457(b) plan by making salary reductions, up to the annual limit ($18,000 in 2017). However, there is no contribution limit for 457(f) plans. In addition, governmental 457(b) plans allow an employee over the age of 50 to make additional catch-up contributions of up to $6,000 for each plan. However, non-governmental 457(b) plans do not permit employees to make Age 50 catch-up contributions.
Can an employee contribute to a 457 plan and a 401(k) or 403(b) plan?
Yes. Following tax law changes in 2001, an employee with access to a 401(k) or 403(b) and a 457 plan could maximize contributions to both plans instead of limiting contributions between the two. For example, in 2017, the contribution limits for 401(k), 403(b), and 457 plans are $18,000 for the year. This means an employee can contribute $18,000 to their 401(k) and another $18,000 to their 457 plan.
What are some of the advantages of participating in a 457plan?
457 plans have features that make them an attractive retirement option. Some of the advantages of participating in a 457 plan include:
- Contributions to a 457(b) plan are tax-deferred and the earnings on the retirement money are tax-deferred.
- Unlike a 401(k), 457 plans do not have a 10% penalty for withdrawals from the account before the age of 55. Instead, an early withdrawal from a 457 plan results in the withdrawal being taxed as ordinary income to the individual.
- Unlike some other retirement plans, independent contractors are also eligible to participate in a 457 plan.
- Withdrawals from a 457 plan are permitted after the employee leaves the company.
What are the differences between a non-governmental 457 plan and governmental 457 plan?
Non-Governmental 457 plans:
- Non-governmental 457 plans can be established by tax-exempt organizations as “eligible” under IRC Section 457(b), or “ineligible” under IRC section 457(f).
- Non-governmental 457(b) (“Top Hat”) plans must limit participation to groups of highly compensated employees or groups of executives, managers, directors, or officers. The plan may not cover rank-and-file employees.
- Non-governmental 457 plans must remain unfunded. Plan assets are not held in trust for employees but remain the property of the employer (available to its general creditors in the event of litigation or bankruptcy).
- Non-governmental 457(b) plans typically use “rabbi trusts” to hold employee deferrals. Although the rabbi trust is funded, the trust assets remain available to creditors.
- Non-governmental 457(f) plans allow for contributions that exceed the annual deferral limit. However, the tax deferral remains for these types of plans only if there is a “substantial risk of forfeiture”. When the risk has been removed, the participant's deferral amounts become taxable.
- Non-governmental 457 plans cannot be rolled into other tax-deferred retirement plans.
- Roth contributions are not permitted in a 457(b) plan of a tax-exempt employer.
Governmental 457 plans:
- Governmental 457 plans can be rolled over into other eligible retirement plans.
- Governmental 457 plans must be funded by a trust.
- A 457(b) plan of a governmental employer may cover some or all common law employees of the employer, as there are no minimum coverage requirements.
- A governmental 457(b) plan is subject to a trust requirement meaning the assets of the plan are not subject to the claims of the employer's creditors.
- Governmental 457(b) plans are permitted to include designated Roth accounts for taxable years beginning after 2010.
- A governmental 457(b) plan may accept contributions of eligible rollover distributions from an eligible retirement plan as defined under Code § 402(c), if the plan provides for such rollover contributions.
If you have any questions about the options available to you for providing retirement benefits for your employees or you are planning for your own retirement, Butterfield Schechter LLP is here to help. We will answer all your questions and make sure your retirement plan is set up to meet your goals and protect you and your family in the future. Contact our office today with any questions on how we can help you and your business succeed.