457b and 457f Plans

457(b) Plans

               This savings vehicle is named after the Internal Revenue Code (IRC) 457(b).  These plans are similar to qualified retirement plans in that you are allowed to defer additional income subject to annual limits, but they have some unique characteristics. In a 457(b) plan, the employee is able to defer compensation without causing immediate taxation.  The participant is then able to receive their deferred compensation in retirement over a period of several years to reduce their tax liability.  Like a qualified group retirement plan, a 457(b) participant is subject to Required Minimum Distributions. 

               There are three important differences between 457(b) plans offered by government employers and those offered by other tax-exempt employers:

• Government employees can roll over a 457(b) account to an IRA or other type of qualified plan. Note that, although there is no 10% early withdrawal penalty for distributions received from a 457(b) plan, you lose this advantage when the account is moved to an IRA.
• Deferrals accumulated in a government plan are protected from the employer’s creditors. Should a city or county declare bankruptcy, employees’ deferred compensation accounts would not be at risk.
• Participation in a nonprofit 457(b) plan is limited to a select group of highly compensated employees, but a government employer can include all employees.

457(f) Plans

                 Also known as ineligible plans, 457(f) plans are a type of non-qualified Defined Contribution plan offered by non-profit employers to a select group of highly compensated employees. This type of plan has no cap on how much can be deferred; however, this advantage comes at a price. To avoid current taxation, the employee’s interest must be subject to “substantial risk of forfeiture.” This means that, although the employee has a legally binding right to the deferred compensation, the employee cannot access the account until a triggering event has occurred. Common triggering events include separation from service or retirement; a specific date or schedule; disability; change in ownership of the business; and, if allowed in the plan, an unforeseeable emergency.

                At retirement, the substantial risk of forfeiture caveat is lifted, and the entire account is taxable in that year, even if the account will be paid out over time. For this reason, most 457(f) plans are paid as a lump sum. Keep in mind that this type of plan is not eligible to be rolled over to an IRA. On the other hand, there are no Required Minimum Distributions and there is no tax penalty for distributions prior to age 59½.