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What is a 457(b) plan and how does it work?

Key takeaways

  • 457(b) plans are tax-advantaged, employer-sponsored retirement plans offered to some government employees, as well as employees of certain tax-exempt organizations.
  • 457(b) plans are split into 2 different categories—governmental and non-governmental—depending on whether you work for the government or not.
  • Although similar to 401(k)s and 403(b)s, 457(b)s have unique features that could offer more flexibility.

401(k)s and 403(b)s might hog the employer-sponsored retirement plan limelight, but 457(b) plans quietly play a crucial role for many American workers saving for their futures. With flexible withdrawal rules and bonus contribution options, 457(b) plans could be an attractive way to save for retirement if your employer offers one.

What is a 457(b)?

A 457(b) deferred compensation plan is a type of tax-advantaged retirement savings account that certain state and local governments and tax-exempt organizations offer employees. Think: law enforcement officers, civil servants, and university workers. When you open a 457(b), typically you set aside pre-tax dollars in the account, reducing your income. Money in the account can be invested and potentially grow until you make withdrawals, at which point you'll pay taxes on what you take out. Depending on your employer plan there may be a Roth option, where you contribute post-tax dollars and then don't have to pay taxes when you take that money out.

There are 2 types of 457(b)s, each with different rules. And it's important to note that here in this article we cover 457(b) plans, not the similarly named 457(f) plans.

What is a governmental 457(b) plan?

Governmental 457(b) plans are sponsored by a government entity. Like with 401(k)s, your contributions are held in a trust and can't be claimed by your employer's creditors. Money saved in a governmental 457(b) can be rolled into other retirement accounts, such as IRAs and 401(k)s.

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What is a non-governmental 457(b) plan?

A non-governmental 457(b) plan, sometimes called a tax-exempt 457(b) plan, is backed by the offering company—perhaps a college or other nonprofit. In a non-governmental 457(b), you tell your employer the percentage of your income you'd like to contribute, but the employer owns the account—not you. If that employer runs into trouble with creditors, your funds could be at risk.

Also, because the account is your employer's and not yours, you can't roll over funds from a non-governmental 457(b) plan into another retirement account and you may not have control over how the funds may be invested. And you can't take a loan backed by the funds in your non-governmental 457(b), like you can with a governmental plan. Another key difference: Whereas you could be automatically enrolled in a governmental 457(b), you have to elect to participate in a non-governmental plan.

457(b) contribution limits for 2023

In 2023, you can contribute up to $22,500 to a 457(b) plan or up to your includible compensation (typically, your taxable wages plus benefits for the year), if that's less than the annual limit. People 50 or over for any part of the year might be eligible to make a catch-up contribution of up to $7,500 to a governmental plan, boosting their 2023 contribution limit to $30,000. Those in non-governmental plans don't have the age 50+ catch-up option.

One caveat: Your plan, particularly if it's a non-governmental plan, might have lower contribution limits than the general max, so check with your plan sponsor. If you work for multiple employers that each sponsor 457(b) plans, you're still limited to $22,500 in contributions in total—not per plan—if you're not eligible for catch-up contributions. But if your employer offers both a 457(b) and a 403(b), as some colleges do, you may contribute up to $22,500 to each for a total of $45,000 in 2023.

Employer contributions are relatively rare for 457(b) plans, but any contributions your employer makes on your behalf count toward the individual contribution limit. Unlike 401(k)s and 403(b)s, there is no separate employer contribution limit for 457(b) plans.

457(b) catch-up deferrals

Another unique feature is that if you're within 3 years of your plan's normal retirement age, your 457(b) plan might allow you to contribute:

  • Up to double the annual limit (if you're not already making the catch-up contributions for being 50 or older) if you are within 3 years of normal retirement as defined by the plan.
  • Or the annual 457(b) limit, plus any amount of unused contribution limit from prior years.

Finally, if your governmental 457(b) plan allows for age-50 catch-up contributions and the 3-year catch-up contributions, you can take advantage of the larger deferral but not both. This could get complicated, so consider reaching out to a tax or financial professional for help.

Check out Fidelity's 457(b) Contribution Limit Calculator 2023

What happens if you contribute too much to a 457(b)?

If you go over the contribution limit, you might be on the hook for tax penalties. If you don't remove excess contributions by April 15 of the next year (usually Tax Day), those dollars could be double taxed: once for the year you or your employer contributed, and again when you take the distribution.

457(b) vs. 403(b)

Although both 457(b)s and 403(b)s are employer-sponsored retirement plans for employees of the government and tax-exempt organizations, there are some key differences.

Flexible withdrawals: Unlike 403(b)s (and 401(k)s), you can withdraw funds from your 457(b) before age 59½ penalty-free if you're no longer employed by the plan sponsor. But you'll still owe income tax on any withdrawals. Governmental 457(b) plans are not subject to the 10% additional tax except for distributions attributable to a rollover from another type of plan or IRA.

Catch-up contributions: Although 403(b)s and 401(k)s allow for catch-up contributions for those 50 and over and so do governmental 457(b)s, only 457(b)s could allow bonus contributions within 3 years of normal retirement age. Some 403(b) plans allow employees who have worked for the plan sponsor for 15 years or more to make additional contributions; 457(b)s do not have a similar loyalty incentive.

457(b) vs. 401(k)

401(k)s is an employer-sponsored workplace retirement plan that is popular with for-profit companies. They too have some important distinctions from 457(b)s.

Employer contributions: Although employer contributions are possible for 457(b)s, state and local governments rarely offer a matching benefit. On the other hand, employer contributions to 401(k) plans are very common. More than 85% of Fidelity-serviced 401(k) plans offer some type of employer contribution.

Employer contribution limits: Although the individual contribution limit is the same for 401(k)s, 403(b)s, and 457(b)s, 457(b)s don't have a separate employer contribution limit, reducing the total amount that could be saved in the plan yearly. With a 457(b) in 2023, the contribution maximum (excluding catch-up or bonus contributions) is $22,500. For 401(k)s and 403(b)s, it's $22,500 for employees and $66,000 for aggregate employee and employer contributions.

Investment options: These are often more limited in 457(b)s than 401(k)s, although it varies plan to plan. A lack of options could make it tougher to diversify your savings according to your risk tolerance and financial goals.

Default risk: Workers' 401(k)s are subject to the Employee Retirement Income Security Act (ERISA), which offers creditor protection for people with those plans. 457(b) plans aren't subject to ERISA. Unlike 401(k)s, savings in non-governmental 457(b)s are at risk from creditors if the sponsoring employer goes bankrupt. Governmental 457(b) plans are protected from creditors.

Inclusion of independent contractors: Independent contractors aren't usually eligible to contribute to an employer-sponsored 401(k), but they could be eligible for their workplace's 457(b) plan, depending on the plan type.

457(b) withdrawal rules

Keep in mind that 457(b) withdrawals are subject to income tax and wage tax (for non-governmental plans), meaning they must be reported as taxable income on that year's tax return. Still, withdrawals can generally happen at any time penalty-free as long as you're no longer employed by the plan sponsor—or if the plan sponsor stops offering the plan.

That being said, you should seriously consider your options before withdrawing from a 457(b) plan. Given that the default withdrawal is a lump sum, your tax liability (aka your tax bill) for that year may increase significantly, which could create a tricky financial situation come tax time if you don't plan correctly. It may be smart to reach out to a financial professional for help before withdrawing from a 457(b).

You might be able to qualify for an early hardship distribution, where you can withdraw funds early penalty-free while still being employed by the plan sponsor. Generally, these are allowed if you're impacted by an event beyond your control that you couldn't plan for, such as an illness, accident, or natural disaster, and you've exhausted other financial options. These distributions could get tricky fast, so consider consulting with a financial or tax pro first.

Finally, just as with 401(k) and 403(b) plans, you must start taking required minimum distributions (RMDs) from your 457(b) on April 1 following the calendar year you turn 73. An exception: You don't need to take RMDs if you're still working for the plan sponsor.

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