457 Plans

A 457 plan is a retirement / pension plan that provides benefits to government employees as well as employees of tax-exempt organizations.  Employees participating in 457 plans are allowed to defer their compensation on a before-tax basis via regular payroll deductions.  Money placed in these accounts grows on a federally tax-free basis until withdrawn.

In this publication we're going to explain the basics of 457 retirement plans, touching on topics such as employee eligibility, contribution limits, as well as the differences between these plans and 401(k) or 403(b) plans.  But first we're going to start with a brief discussion of employer eligibility.

Employer 457 Retirement Plans

The growing interest in 457 plans stems from the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA), which made a number of changes as to how these 457 plans are treated.  Employers eligible to participate in these plans include state and local government agencies that are exempt from federal income taxes, as well as other non-church organizations exempt from federal income taxes such as:

• Educational Organizations
• Charitable Organizations
• Hospitals
• Chartable Foundations
• Labor Unions
• Trade Associations
• Tax-exempt Non-Rural Electric Cooperatives

Governmental and Non-Governmental Plans

As just discussed, there are two types of 457 plans - those for governmental agencies and those for non-governmental / tax-exempt organizations.  Some government plans were established under the provisions of Section 457(g) - but these types of plans can no longer be created.  Most of the plans in existence today are Section 457(b) plans and that's what we're going to discuss first in this publication.  We'll cover the topic briefly here, but we've got an entire publication dedicated to 457(f) plans.

Non-Governmental 457b Plans

Non-profit organizations are now able to provide their employees with 457 plans in addition to their traditional 403b plans.  Such companies can establish an eligible plan under Section 457(b) or what are called "ineligible" plans under Section 457(f).

Non-governmental 457(b) plans are limited to a predefined standard group of higher compensation employees - typically directors or officers of the company.  Oftentimes this compensation limit is the same as that used for 401k participation testing purposes.  And because these plans are usually limited to highly-compensated employees or a select group of executives, they are sometimes referred to as "top hat" plans.

The big advantage of these plans is that they allow employees that are in their peak earning years to defer the payment of federal and state income taxes on their contributions to the plan.

457b Plan Restrictions

Plans for these non-governmental entities are much more restrictive than governmental plans.  For example, money deferred into these plans cannot be rolled over into any other type of tax-deferred retirement plan - only another non-governmental 457 plan.  In addition, the money placed into these accounts is not held in a trust for the sole benefit of the employee that makes the deferral.  Instead the money remains the property of the employer and therefore is available to creditors.

Deferral Limits 2007 / 2008

In 2006, the contribution limit on a 457b plan was 15,000 and that limit moved up to $15,500 in 2007.  Contributions will remain at that limit in 2008.  In the years 2009 and beyond, the deferral limit on these plans will move up in $500 increments and will be indexed for inflation.  This deferral limit applies to both governmental and non-governmental 457b plans.

Catch-Up Contributions

If you're over 50 by the end of the calendar year, then you also qualify for an additional catch-up contribution of $5,000 in the years 2007 and 2008.  Catch-up contributions only apply to governmental plans.  Non-governmental 457b plans are not eligible to make catch-up contributions.

457b Special Catch-Up Contributions

Finally, you may also qualify for a special catch-up contribution of $15,500 in 2007 and 2008, up from $15,000 in 2006.  This special catch-up contribution cannot be combined with the $5,000 catch-up contribution for those aged 50 and over.  In order to qualify for this special catch-up deferral, you must have under-contributed in prior years.  Speak with your plan's administrator to verify your eligibility under this special provision.

Comparing Features of 457b Plans

The following table allows you to compare features - such as contribution limits, transfers, distributions, and rollover rules - of 457b plans for governmental agencies, tax-exempt organizations, and those employers offering 457f plans.

Changes Affecting 401k, 403b and 457b Plan Participants

Back in 2001 there was an important change to the coordination of benefits limits for participants of 403b / 401k plans and the 457b.  As a result of that change, the contribution limits for persons working for employers sponsoring a 401k or 403b essentially doubled if they were also eligible for a 457 plan.

That is to say, instead of being confined to a single contribution limit in each of their 401k / 403b and 457b plans, employees are now allowed to defer the maximum contribution amounts to each plan (individually) instead of combining each plan into a single limit amount.

457(f) Plans

The 457f is a non-qualified deferred compensation arrangement (a non-qualified retirement plan) that provides tax-exempt / 501(c)(3) employers with an opportunity to supplement the retirement income of highly-compensated employees.  Within such an arrangement, employers can contribute to this plan and money is paid to the employee at retirement.  This is why these plans are sometimes referred to as "golden handcuffs" plans since they provide an incentive for executives to stay with the organization.

Under the provisions of Section 457(f), assets contributed by the employer remain owned by the employer until paid to the executive at retirement.  This provides the promise of a future benefit to the executive while also providing a tax shelter since the assets are not taxable income as long as they remain the property of the employer.

And as illustrated earlier, the contribution rules for a 457f plan are extremely generous (unlimited) as long as there is substantial risk of forfeiture.  In other words, organizations can contribute as much as they want to this plan as long as there is a mechanism in place by which the executive risks loss of the entire benefit.

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