It is surprising that most government and other tax-exempt organization employees are unaware of a major tax benefit laying at their feet. While 403b plans are well known as the public sector’s alternative to a 401k, the 457 deferred compensation plan remains relatively unknown. This is a shame. If you are a government employee, it is imperative that you be aware of the benefits associated with a 457 plan.
On the surface the best part of the 457 plan is that it allows you to put another $18,000 in earnings away on a tax deferred basis. If you max out your 403b and 457, you can defer up to $36,000 per year! If you’re over 50, you can add a catch up contribution of $6,000 to each plan. This is very powerful way to protect your earnings from the hands of Uncle Sam.
If you dig a layer deeper with the 457, you will find that the 457 has a unique provision. Unlike its 403b sister, 457 restrictions on ‘early distributions are different. For a 403b plan, you typically can’t get the money out without an early withdrawal penalty prior to 55 or 59 1/2. The 457 is not concerned with age. It is concerned with whether or not you separated from service from your employer. In other words, if you quit, get laid off, or fired, you can access your savings without the early withdrawal penalty. This is a major benefit for using a 457. The reason this exists stems from the fact that the 457’s original purpose was to provide police and fire employees a way to access retirement funds in the event that their career was ended early by injury. At some point the law was changed and here we are today with this great benefit.
Remember, putting $18,000 away in additional savings to a 457 plan (or 403b, 401k) is not a dollar for dollar game. You are actually reducing your annual income in the eyes of the IRS. This means less annual taxable income. The tax savings does not impact your net salary by $18,000 or whatever you choose to contribute. The tax savings lessens the reduction to your net take home pay. This is a win-win situation.
I highly recommend you consider your current financial needs and your retirement needs. Based on the facts, make a decision on whether you can save more for retirement. Time waits for no one and Uncle Sam has provided you with a pass on the IRS for up to $18,000 and possibly $36,000, if you work for the right type of employer (each year the contribution rates are subject to adjustment). These benefits are real and direct. Don’t pass up on a good thing.