401a vs 457b: What’s the Difference Between 401(a) and 457(b) Plans?

The road to retirement can seem complicated, especially when navigating the multitude of retirement savings options available. For those working in government sectors and certain non-profit organizations, two popular options are the 401(a) and the 457(b) retirement plans. 

While both are designed to offer tax-advantaged retirement savings, they differ in their features, benefits, and regulations.

In this article, we look into understanding these two types of plans — 401(a) and 457(b). We’ll examine their structure, contribution limits, tax implications, and benefits and explore the distinctive features of each. 

We also touch upon the age-based and special contribution rules and the types of investment products available in a 457(b) plan and discuss various aspects related to withdrawals and distributions from these plans and what happens to your 457(b) plan in the event of leaving your job, divorce, or death.

457(b) Plan vs. 401(a) Plan Comparison Chart

In the complex landscape of retirement planning, understanding the similarities and differences between various plan options is important. To help you quickly gain the information you need and to simplify this process, we’ve created a comparison chart for two commonly offered plans in the public sector. 

Here’s a comparison chart between the 457(b) and the 401(a) plans:

Feature	457(b) Plan	401(a) Plan
Eligibility	Mostly government and non-profit employees	Government, educational, and non-profit employees
Contribution Limit (2024)	$23,000 (additional catch-up contributions allowed)	$23,000 (additional catch-up contributions allowed)
Employer Contributions	Allowed, but count towards the contribution limit	Typically mandatory and match a certain % of employee contributions
Employee Contribution Method	Predetermined by the employer, pre-tax or after-tax (Roth)	Predetermined by the employer, pre-tax or after-tax (Roth)
Withdrawal Penalty	No early withdrawal penalty	10% early withdrawal penalty (with certain exceptions)
Required Minimum Distributions (RMDs)	Begin at age 73	Begin at age 73
Loans	Allowed	Allowed
Early Retirement/Resignation	Can withdraw funds if no longer employed by the organization, regardless of age	Can withdraw funds if no longer employed by the organization and age 55 or older
Catch-Up Contributions	Standard age 50+ catch-up contributions and special 457(b) catch-up contributions	Standard age 50+ catch-up contributions

Specific plan details may vary based on the employer’s plan design.

Understanding 401(a) and 457(b) Plans

In order to successfully navigate your retirement savings journey, it’s important to understand the ins and outs of the available retirement plans. 

From establishing accounts, understanding contribution limits, and tax deferral advantages, to the specific differences and benefits these plans offer, we’ll cover it all. Equip yourself with this knowledge to effectively leverage these tools for a secure and prosperous retirement.

Basic definition and structure of 401(a) and 457(b) plans.

401(a) Plans

The 401(a) plan is a type of retirement savings plan primarily used by government entities, educational institutions, and non-profit organizations. They are often used as an incentive to attract and retain valuable employees. The main features of a 401(a) plan are:

• Employer Control: The employer typically determines the specifics of a 401(a) plan, including eligibility, contribution limits, investment choices, and whether the plan will allow for pre-tax, after-tax, or both types of contributions.
• Mandatory Employer and/or Employee Contributions: Unlike some other retirement savings plans, 401(a) plans often have mandatory contribution rules. An employer can make it compulsory for employees to contribute a certain percentage of their pay to the plan. Employers usually contribute to the plan as well, often in the form of matching contributions.
• Vesting Schedule: 401(a) plans often come with a vesting schedule, which dictates how long an employee must work for the employer before gaining full ownership of the employer-contributed funds.

457(b) Plans

457(b) plans are another type of tax-advantaged retirement savings plan, generally offered to state and local government employees and some non-profit workers. The main features of a 457(b) plan include:

• Deferred Compensation: Contributions are made pre-tax, which means that they reduce your taxable income in the year you make them. The money then grows tax-free until you withdraw it in retirement, at which point it is taxed as ordinary income.
• No Early Withdrawal Penalty: A key feature that differentiates 457(b) plans from 401(a) and 401(k) plans is that there is no 10% early withdrawal penalty for taking out funds before the age of 59.5. However, regular income tax still applies to the distributions.
• Double Catch-Up Contributions: If you’re within three years of the plan’s normal retirement age, you may be eligible to contribute twice the annual limit.
• Employer Contributions: Employers can contribute to 457(b) plans, but their contributions are combined with the employee’s contribution for the purpose of applying the annual limit.

Both plans offer a tax-advantaged way to save for retirement, but they are designed for different types of employees and have different rules and features.

Establishing accounts

Establishing 401(a) Accounts

A 401(a) plan is established by an employer for the benefit of the employees. This type of plan is primarily offered by government and nonprofit entities. 

The plan’s specifics, such as contribution amounts and investment options, are defined by the employer. After the plan is set up, eligible employees are enrolled, typically automatically. 

Employees may then decide their contribution amount if voluntary contributions are permitted, select their investment options, and manage their account, usually through an online platform provided by the plan administrator.

Establishing 457(b) Accounts

A 457(b) plan is also employer-established. It’s typically offered to government and certain non-profit employees. 

The plan allows for pre-tax contributions, which then grow tax-free until withdrawn at retirement. Similar to the 401(a), the employer determines eligibility and plan specifics. Once the plan is established, eligible employees are enrolled and can decide their contribution amount up to the allowed limit. 

Employees can also choose their investments from the options offered in the plan and manage their account, often online.

In both cases, these plans are employer-sponsored. An individual cannot establish these accounts independently as they could with an Individual Retirement Account (IRA). 

Instead, the availability and specifics of these plans depend on an individual’s employer. 

Regular account statements will be provided to the employees to track the performance and balance of the accounts. Employees are also advised to update beneficiary information and ensure that their investment allocations align with their retirement goals and risk tolerance.

Contribution Limits: How Much Can Be Contributed to a 401(a) and 457(b)?

As of 2024, the basic annual limit for contributions to both 401(a) and 457(b) plans is $23,000 for individuals under the age of 50. This limit includes all contributions made by the individual to the plan, but does not count any employer contributions in the case of the 401(a) plan.

Catch-up contributions allow individuals aged 50 and over to contribute additional amounts to their retirement plans. For both 401(a) and 457(b) plans, the catch-up contribution limit in 2024 is an additional $7,500, raising the total annual contribution limit for those 50 and older to $30,000.

The 457(b) plan, however, offers an additional special catch-up contribution for participants who are within three years of the plan’s normal retirement age. They can contribute double the normal limit (A total of $46,000 in 2024). But, they can’t also make the standard $7,500 catch-up contribution for those over 50. See IRS 457b contribution limits.

In 401(a) plans, the employer also often makes contributions. There’s a combined annual limit on employee and employer contributions. For 2024, this limit is the lesser of 100% of the employee’s compensation, or $69,000.

Tax Deferral.

Tax deferral is a significant component of both 401(a) and 457(b) plans.

Tax Deferral in 401(a) Plans

In a 401(a) plan, contributions are typically made on a pre-tax basis. This means that contributions are deducted from the employee’s paycheck before taxes are taken out, reducing the employee’s taxable income for that year. The contributions and any earnings on those contributions then grow tax-deferred until they are withdrawn. 

When distributions are taken during retirement, they are treated as ordinary income and taxed at the individual’s income tax rate at that time. The premise is that most individuals will be in a lower tax bracket during retirement than during their working years, resulting in potential tax savings.

If the 401(a) plan allows for after-tax (Roth) contributions, those contributions are made with after-tax dollars and do not reduce current taxable income. However, those contributions and their earnings can be withdrawn tax-free during retirement.

Tax Deferral in 457(b) Plans

Similar to the 401(a), contributions to a 457(b) plan are made on a pre-tax basis, which reduces the current taxable income of the employee. The funds in the account, including any investment earnings, are not taxed until they are withdrawn.

Upon withdrawal during retirement, the distributions are treated as ordinary income and subject to tax at the individual’s current income tax rate. Like a 401(a) plan, this is based on the assumption that most individuals will be in a lower tax bracket during retirement.

A unique feature of the 457(b) plan is the lack of a 10% early withdrawal penalty that typically applies to other deferred compensation plans like 401(k)s or 401(a)s if withdrawals are made before the age of 59.5.

Required minimum distributions (RMDs) generally must begin at age 73, ensuring that the IRS can eventually tax the deferred income. Failure to take RMDs can result in substantial tax penalties.

Differences Between 401(a) and 457(b) Plans.

1. Eligibility: 401(a) plans are typically offered by government entities, educational institutions, and nonprofit organizations to their employees. In contrast, 457(b) plans are mostly provided to state and local government employees, as well as some non-profit workers.

2. Contributions: Both plans have similar contribution limits for the employees, but in a 401(a) plan, employers often make mandatory contributions that can be a fixed amount or a match of the employee’s contribution. In a 457(b) plan, employers can also contribute, but these contributions count towards the total limit.

3. Early Withdrawal Penalties: This is one of the major differences between the two. With a 401(a) plan, there’s a 10% early withdrawal penalty if funds are withdrawn before the age of 59.5, unless a specific exception applies. This is not the case with a 457(b) plan – there is no 10% penalty for early withdrawals, making the 457(b) more flexible for individuals who anticipate needing access to funds before reaching age 59.5.

4. Catch-Up Contributions: Both plans allow for catch-up contributions for those aged 50 and above. However, 457(b) plans have a unique “double limit” catch-up contribution provision that allows individuals who are within three years of normal retirement age to contribute twice the standard annual limit.

5. Roth Option: Some 401(a) plans may have a Roth option where employees can make contributions with after-tax dollars and then withdraw funds tax-free in retirement. This is less common in 457(b) plans, but it depends on the specific plan.

6. Loans: Both plans can allow for loans, but the specifics depend on the terms set by the employer or plan provider.

The specific features and rules of a 401(a) or 457(b) plan can vary from one employer to another.

The Benefits of 401(a) and 457(b) Plans.

Both 401(a) and 457(b) plans offer numerous benefits for retirement savings. Here are some of the key advantages of each:

Benefits of 401(a) Plans

1. Tax-Deferred Growth: Like many retirement plans, a 401(a) offers tax-deferred growth. This means the contributions and earnings are not taxed until they are withdrawn at retirement, potentially allowing for more substantial growth over time.

2. Reduced Taxable Income: Since contributions are often made pre-tax, they can reduce your current taxable income, providing an immediate tax benefit.

3. Employer Contributions: Many 401(a) plans include mandatory employer contributions, which can significantly boost the growth of your retirement savings. 

4. Roth Option: Some 401(a) plans may allow for Roth contributions. This means you contribute after-tax dollars, but the funds grow tax-free and withdrawals in retirement are also tax-free.

5. Loan Provisions: Some 401(a) plans may allow you to take out loans against your retirement savings in case of financial need.

Benefits of 457(b) Plans

1. Tax-Deferred Growth: Like the 401(a), the 457(b) plan allows for tax-deferred growth, providing the opportunity for your retirement savings to compound over time.

2. Reduced Taxable Income: Contributions to a 457(b) plan are made pre-tax, reducing your current taxable income and providing immediate tax savings.

3. No Early Withdrawal Penalty: Unlike many other retirement plans, the 457(b) plan does not penalize early withdrawals. This means that if you retire or leave your job, you can access your funds regardless of your age without having to pay the typical 10% early withdrawal penalty.

4. Double Limit Catch-Up Contributions: If you’re within three years of the plan’s normal retirement age, you may be able to contribute twice the annual limit, significantly increasing your potential for tax-deferred growth.

5. Loan Provisions: Some 457(b) plans also allow for loans, offering flexibility in case of financial need.

Age-Based and Other Special Contribution Rules

Our age, income, and financial goals can significantly impact how we save for retirement. That’s why certain age-based and special contribution rules exist to provide flexibility and options for retirement savers. 

Age 50 Catch-Up

The Age 50 Catch-Up is a provision in many retirement plans, including the 401(a) and 457(b) plans, that allows individuals aged 50 or older to contribute additional funds to their retirement accounts beyond the standard annual limit. This is designed to help individuals accelerate their retirement savings as they get closer to retirement age.

As of 2024, the catch-up contribution limit for both 401(a) and 457(b) plans is $7,500. This is in addition to the standard annual limit of $23,000. So, if you are 50 or older, you can contribute a total of $28,000 to each of these plans in a single year.

Here’s how it works:

• 401(a) Plans: If you are participating in a 401(a) plan and you are age 50 or older, you can contribute an additional $7,500 to your 401(a) plan on top of the standard annual limit. This applies regardless of when you turn 50 within the calendar year.

• 457(b) Plans: Similar to the 401(a), if you are participating in a 457(b) plan and are age 50 or older, you can contribute an additional $7,500 to your 457(b) plan over the standard annual limit.

Note that the Age 50 Catch-Up provision is entirely optional – eligible individuals can choose whether to make these additional contributions based on their individual retirement savings goals and financial situation.

Additional Catch-Up (Three-Year Rule).

The Additional Catch-Up provision, also known as the “Special 457 Catch-Up” or the “Three-Year Rule,” is unique to 457(b) plans. It’s designed to allow employees who are nearing retirement to make up for years when they did not contribute the maximum allowable amount to their 457(b) plan.

Here’s how it works: If you are within three years of the plan’s normal retirement age, you may contribute up to twice the standard annual limit to your 457(b) plan. As of 2024, the standard limit is $23,000, so eligible individuals could contribute up to $46,000 in a single year under this provision.

The amount you can contribute under the Additional Catch-Up provision is the lesser of:

1. Twice the annual limit ($46,000 in 2024), or

2. The standard annual limit plus the amount of the standard limit not used in previous years (only counting years after 1978 when the plan was created).

If you use the Additional Catch-Up, you cannot also use the Age 50 Catch-Up in the same year. You can use whichever one allows you to contribute more.

The Additional Catch-Up provision is optional and requires some calculations to determine the maximum contribution. It may not apply to everyone, particularly if you have consistently contributed the maximum amount to your 457(b) plan each year. 

Can I also contribute to a 401(a)?

If you have access to both a 401(a) and a 457(b) plan, you can contribute to both. The contribution limits for these two types of plans are separate, allowing you to save even more for retirement.

As of 2023, the individual contribution limit is $23,000 for both 401(a) and 457(b) plans. If you’re 50 or older, you can also make catch-up contributions of an additional $7,500 to each plan, raising the total possible contribution to $30,500 per plan in a single year.

If you’re nearing retirement and eligible for the special catch-up contribution in your 457(b) plan, you could potentially contribute even more.

Employer contributions in a 401(a) plan do not affect your ability to contribute the maximum amount to your 457(b) plan and vice versa. The contribution limits apply separately to each plan.

	401(a)	457(b)	Both
Limit	$23,000	$23,000	$46,000
Catch-Up (Age 50+)	$7,500 (Total $30,500)	$7,500 (Total $30,500)	$7,500 per plan (Total $61,000)
Special Catch-Up	N/A	$23,000 (Total $46,000)	$69,000 (401(a): $23,000 + 457(b): $23,000 (Normal) + $23,000 (Special Catch-Up)) $76,500 total with 401(a) Catch-Up

Can I also contribute to a Roth IRA?

Contributing to both a 401(a) or 457(b) plan and a Roth IRA is allowable and can be an excellent strategy for diversifying your tax obligations in retirement. Contributing to both types of accounts allows you to take advantage of the tax benefits that each provides: immediate tax deductions with the 401(a) or 457(b) and tax-free withdrawals with the Roth IRA.

As of 2024, the maximum annual contribution to a Roth IRA is $7,000 if you’re under the age of 50 and $8,000 if you’re 50 or older. These limits apply to your total contributions to all of your Roth and traditional IRAs combined.

Eligibility to contribute to a Roth IRA is subject to income limits. If your modified adjusted gross income (MAGI) exceeds certain thresholds, your contribution limit may be reduced, or you may be ineligible to contribute to a Roth IRA. As of 2024, the phase-out range for Roth IRA contributions starts at $146,000 for single filers and $230,000 for those married filing jointly.

Keep in mind that making contributions to a 401(a) or 457(b) does not affect your ability to contribute to a Roth IRA, provided you’re within the income limits. You’re allowed to contribute the maximum to your 401(a) or 457(b), as well as to your Roth IRA if you choose.

Investment Products and Special Types of 457(b)

Choosing the right investment products is a vital part of retirement planning. With a 457(b) plan, a range of investment options is often available, providing the opportunity to diversify your portfolio and align your investments with your risk tolerance and financial goals. 

Variations of the 457(b) plan, like the Roth 457(b), provide unique tax advantages that can further enhance your retirement savings strategy. 

Understanding these options can help you maximize your retirement savings and build a retirement plan that suits your needs. Let’s uncover these opportunities.

Investment Products Available in a 457(b)

Investment options within a 457(b) plan can vary widely depending on the specific plan and provider, but they often include a variety of asset classes to allow participants to create a diversified portfolio that aligns with their risk tolerance and retirement goals. 

Here are some of the types of investments that are commonly available within 457(b) plans:

1. Mutual Funds: These are pooled investment vehicles that allow you to invest in a diversified portfolio of stocks, bonds, or other securities. Mutual funds are managed by professional fund managers.

2. Target-Date Funds: These are mutual funds that automatically adjust their asset allocation over time to become more conservative as the target retirement date approaches. They’re designed to provide a simple, all-in-one investment strategy for retirement savings.

3. Bond Funds: These funds invest primarily in bonds and other debt securities. They can be a good option for conservative investors seeking steady income and lower risk.

4. Stock or Equity Funds: These funds invest in stocks and can be a good option for those seeking growth, although they can be riskier than bond funds.

5. Money Market Funds: These are very low-risk funds that invest in highly liquid and safe assets, such as Treasury bills and short-term commercial paper.

6. Indexed or Passive Funds: These are mutual funds or ETFs that aim to replicate the performance of a specific index, such as the S&P 500. They tend to have lower fees than actively managed funds.

7. Stable Value or Guaranteed Investment Contracts (GICs): These are low-risk investments that provide a fixed rate of return. They are typically issued by insurance companies.

8. Real Estate Funds: These funds invest in real estate or real estate-related securities, providing another way to diversify your portfolio.

9. International or Global Funds: These funds invest in non-U.S. companies, providing exposure to international markets.

Investing always involves risk, including the risk of loss. Diversifying your investments and periodically rebalancing your portfolio can help manage risk. 

Roth 457(b)

The Roth 457(b) is a variation of the traditional 457(b) retirement plan that offers distinct tax advantages. Just like a Roth IRA, contributions to a Roth 457(b) are made with after-tax dollars, meaning you pay tax on the money before it goes into the account rather than when it comes out at retirement.

Here are some key characteristics and benefits of a Roth 457(b):

• Tax-Free Withdrawals: The biggest benefit of a Roth 457(b) is that qualified withdrawals in retirement are completely tax-free. This includes both your contributions and any earnings. A withdrawal is qualified if it is made at least five years after your first Roth 457(b) contribution and you are at least 59½ years old, become permanently disabled, or die.

• No Required Minimum Distributions (RMDs): Unlike traditional 457(b) plans, Roth 457(b) plans have no required minimum distributions during the account holder’s lifetime. This allows the funds to continue to grow tax-free as long as they remain in the account.

• Contribution Limits: The annual contribution limits for a Roth 457(b) are the same as for a traditional 457(b). As of 2024, this is $23,000, or $30,500 if you are age 50 or older.

• Availability: Not all employers offer a Roth 457(b) option. It’s more commonly offered by governmental employers rather than non-governmental tax-exempt employers.

A Roth 457(b) can be a powerful tool for tax-free retirement income, especially if you expect to be in a higher tax bracket in retirement. 

Since contributions are not tax-deductible, they may result in higher taxable income and potentially higher taxes today compared to a traditional 457(b). 

Withdrawals and Distributions

When we think about retirement plans, we often focus on the accumulation phase—contributing to the plan and growing our savings. But equally important is understanding the rules and processes for when it’s time to use those savings, namely, the withdrawal and distribution phase. 

The information here can help you plan your retirement income strategy effectively and understand the implications of withdrawals on your retirement savings. Let’s dive in.

Distribution Eligibility

Distribution eligibility for a 401(a) and 457(b) plan can vary depending on a few different factors, such as your age, employment status, and the rules set by your plan. Here’s a general overview:

401(a) Plans

• Retirement or termination of employment: Once you retire or leave your job, you’re typically eligible to start taking distributions from your 401(a) plan.

• Age 59½: If you’re still working but have reached the age of 59½, you may be able to take in-service withdrawals from your 401(a) plan if your plan allows.

• Required Minimum Distributions (RMDs): Once you reach the age of 73, you generally must start taking required minimum distributions from your 401(a) plan, whether you’re still working or not.

457(b) Plans

• Retirement or termination of employment: Similarly to the 401(a), you can take distributions from your 457(b) once you retire or leave your job.

• Unforeseeable emergency: If you encounter an unforeseeable emergency, as defined by your plan, you may be allowed to make a withdrawal from your 457(b).

• Age 73 and RMDs: While 457(b) plans technically require RMDs at age 73 like 401(a) plans, there’s an exception for governmental 457(b) plans if you’re still working. In that case, RMDs can be delayed until you actually retire.

• Age 59½ and in-service withdrawals: Unlike 401(a) and other types of retirement plans, 457(b) plans do not impose a 10% early withdrawal penalty if you take money out before age 59½. However, your plan may have rules about in-service withdrawals.

All distributions from these plans are subject to regular income tax when withdrawn, except for those from a Roth, which are tax-free if the withdrawal is qualified. 

If the withdrawal is not eligible (for instance, if taken before age 59½ in a 401(a) plan without a qualifying reason), additional taxes or penalties may apply.

Unforeseen Emergency Withdrawal

An unforeseen emergency withdrawal from a 457(b) plan is a distribution that is permitted due to an immediate and heavy financial need. This is a special provision unique to 457(b) plans that aren’t subject to the 10% early withdrawal penalty that applies to other types of retirement plans.

The IRS defines an unforeseen emergency as a severe financial hardship resulting from an illness or accident suffered by the participant, the participant’s spouse, or the participant’s dependent; loss of the participant’s property due to casualty; or other similar extraordinary and unforeseeable circumstances arising as a result of events beyond the participant’s control.

The need must be immediate and heavy, meaning it requires the participant to part with their retirement savings. 

Generally, unforeseen emergency withdrawals are to be made only if the emergency can’t be relieved through reimbursement or compensation from insurance, by liquidating the participant’s assets (to the extent this wouldn’t cause further hardship), or by cessation of deferrals under the plan.

The amount of the distribution should not exceed what’s reasonably necessary to satisfy the emergency need. This could include any taxes or penalties that might result from the distribution.

While the flexibility to make unforeseen emergency withdrawals can provide peace of mind, it’s important to remember that taking money out of your retirement savings can have long-term impacts on your ability to save for retirement. 

These types of withdrawals should be used sparingly and as a last resort. 

Withdrawal Requirements for 457(b) Money.

The withdrawal requirements for a 457(b) plan are governed by specific rules that depend on your employment status, age, and the reason for the withdrawal. Here are the key points:

• Termination of employment: The most common scenario in which you can withdraw money from a 457(b) plan is when you leave your job, whether you retire, resign, get fired, or get laid off. The plan may offer a number of options for withdrawal, such as lump sum, annual installments over a period of years, or annuity payments.

• Age-based withdrawals: Once you reach age 70½, you can make withdrawals from your 457(b), even if you’re still employed. This is often called the “age 70½ rule”.

• Unforeseeable emergency: As previously discussed, you can withdraw funds from your 457(b) plan due to an unforeseeable emergency that creates a severe financial hardship, subject to specific rules and limitations.

• Required Minimum Distributions (RMDs): You must begin taking RMDs from your 457(b) plan by April 1st of the calendar year following the year in which you turn 72 or retire, whichever is later. However, this requirement doesn’t apply to governmental 457(b) plans if you’re still working.

• No early withdrawal penalty: Unlike other retirement accounts, there’s no 10% early withdrawal penalty for taking money out of a 457(b) plan before age 59½. However, regular income taxes will apply.

• Death or disability: If you become permanently disabled or pass away, the funds in your 457(b) can be distributed to you or your beneficiaries without any penalties.

Any withdrawal from a 457(b) plan is subject to income tax (unless it’s a Roth 457(b) and the withdrawal is qualified). 

Borrowing and Impact of Life Events on 457(b)

Life is full of unexpected turns and events that can impact our financial stability and planning. 

When it comes to retirement savings, it’s necessary to understand how such events, along with potential borrowing needs, can influence our retirement plans, specifically a 457(b) plan. 

Borrowing Money From Your 457(b).

While not all 457(b) plans allow loans, many do. Here are some of the rules and considerations involved with borrowing from a 457(b) plan:

Loan Limits: The maximum amount that you can borrow from your 457(b) plan is 50% of your vested account balance or $50,000, whichever is less. However, if your vested account balance is less than $10,000, you can borrow up to that amount.

Repayment Period: You generally have to repay the loan within five years, although the repayment period can be longer if the loan is used to purchase a primary residence.

Interest Rate: The interest rate for a 457(b) loan is typically the prime rate plus 1-2%. The interest you pay on the loan goes back into your 457(b) account.

Double Taxation: Although you pay the interest with after-tax dollars, when you withdraw the funds in retirement, you will pay tax on the interest again. This leads to a situation of double taxation, which is a drawback of 457(b) loans.

Defaulting on the Loan: If you leave your job or fail to repay the loan as agreed, the outstanding balance will be considered a distribution and will be taxable. However, unlike other types of retirement plans, defaulted loans from 457(b) plans aren’t subject to the 10% early withdrawal penalty.

Borrowing from your 457(b) plan should generally be considered a last resort, as it can reduce your long-term retirement savings. Consider the potential impact on your retirement savings and explore other financing options before deciding to borrow from your 457(b) plan. 

What Happens to Your 457(b) If You Leave Your Employer?

When you leave your job, whether due to retirement, resignation, or termination, you have several options for what you can do with your 457(b) plan:

• Leave it where it is: If your account balance is above a certain threshold (usually $5,000), you can typically leave your money in your former employer’s 457(b) plan. You can’t make any more contributions, but your money will continue to grow tax-deferred, and you’ll still have access to the investment options in the plan.

• Roll it over: You can roll over your 457(b) funds into another 457(b), a 401(k), a 403(b), or an individual retirement account (IRA).
  
  If you choose to roll over into a traditional IRA or another employer’s 401(k) or 403(b) plan, you’ll maintain the tax-deferred status of your savings.
  
  If you roll it over to a Roth IRA, you’ll have to pay taxes on the amount rolled over, but future withdrawals in retirement could be tax-free.

• Take a distribution: You can choose to take a lump-sum distribution. The distributed amount will be subject to federal (and possibly state) income tax. Importantly, unlike with 401(k) and 403(b) plans, there is no early withdrawal penalty for distributions from a 457(b) plan taken before age 59½.

• Installments or Annuities: Depending on the plan’s options, you might be able to take your money as installment payments or purchase an annuity to provide a stream of income in retirement.

Consider the impact on your taxes and retirement savings. Rolling over your 457(b) into an IRA or another retirement plan can provide a wider range of investment options and help consolidate your retirement savings. 

If you expect to need to access the funds before age 59½, the lack of an early withdrawal penalty with a 457(b) might be a significant advantage. 

What Happens to Your 457(b) in the Event of a Divorce.

In the event of a divorce, assets in a 457(b) plan can be divided between the plan participant and the participant’s spouse according to the laws of the state where the divorce is taking place and the specifics of the divorce agreement. 

This is typically accomplished via a Qualified Domestic Relations Order (QDRO).

A QDRO is a legal order that grants a person, such as a former spouse, the right to a portion of the benefits a participant has in a retirement plan. 

Once a QDRO is established and accepted by the plan administrator, the person who is named the alternate payee can receive their share of the benefits as specified in the QDRO. 

There are a few important considerations:

• Taxes: If the funds are directly transferred to an account for the alternate payee (such as a 401(k) or an IRA), the distribution will not be taxable. However, if the alternate payee takes the distribution in cash, it will be subject to income tax.

• Penalties: Generally, early withdrawal penalties apply if money is taken out of a retirement account before age 59½. However, distributions due to QDRO are one of the exceptions to this rule.
  
  If the alternate payee decides to take a cash distribution, they won’t face the 10% early withdrawal penalty. 457(b) plans as they do not have an early withdrawal penalty.

• Future Growth: Depending on the specifics of the divorce agreement and the QDRO, the alternate payee may be entitled to a portion of the future growth of the investments in the plan.

What Happens to Your 457(b) in the Event of Death.

In the unfortunate event of a plan participant’s death, the remaining balance in a 457(b) plan is generally paid out to the designated beneficiary or beneficiaries. Here’s a closer look at how this works for different situations:

• Designated Beneficiaries: When setting up the 457(b) plan, participants usually have the option to designate one or more beneficiaries who will inherit the funds in the event of their death. Beneficiaries can be individuals, such as a spouse or children, or entities, like trusts or charities.

• Spousal Rights: In some cases, retirement plans require the spouse to be the primary beneficiary unless the spouse provides written consent to name someone else. However, this does not apply to 457(b) plans, and the participant can choose the beneficiary freely.

• Distribution Options: Upon the participant’s death, the beneficiary typically has several options for receiving the inherited funds. They may take a lump-sum distribution, rollover the funds into an inherited IRA, or, in some cases, may opt to take distributions over time.
  
  The right option depends on the beneficiary’s individual circumstances, including their age, financial needs, and tax situation.
  
• Taxes: The tax implications for beneficiaries depend on the method of distribution. Generally, any distribution from the plan will be considered taxable income to the beneficiary in the year the distribution is made.
  
  If the 457(b) plan is a Roth account, distributions may be tax-free if the account has been held for at least five years.

• No Designated Beneficiary: If the participant doesn’t designate a beneficiary or if the designated beneficiary has predeceased the participant, the remaining balance in the 457(b) plan typically goes to the participant’s estate and is distributed according to the participant’s will or, if there’s no will, according to state intestacy laws.

These guidelines underscore the importance of keeping beneficiary designations current, especially following significant life events, such as marriage, divorce, or the birth of a child. 

Offering a 401(a) and 457(b) Plan Together

Offering both a 401(a) and 457(b) plan together can provide a robust retirement savings platform for employees, particularly for those working in governmental and certain non-profit sectors. Let’s look at the benefits and considerations of this arrangement:

Benefits

• Higher Contribution Limits: Because 401(a) and 457(b) plans have separate contribution limits, offering both allows participants to contribute more towards their retirement savings in a tax-advantaged way than they could with just one plan.

• Flexibility in Investment Choices: Offering both types of plans may provide a wider variety of investment options, allowing participants to better diversify their portfolios.

• Tax Planning Flexibility: Having access to both pre-tax (401(a)) and potentially post-tax (Roth 457(b)) savings can provide more flexibility in tax planning for retirement. 

• No Early Withdrawal Penalty for 457(b) Plans: Participants who may need to access funds prior to age 59 1/2 can do so from the 457(b) without an early withdrawal penalty, adding another layer of financial flexibility.

Considerations

• Complexity: Operating and participating in multiple types of retirement plans can be complex. Employers will need to manage multiple plan documents, non-discrimination testing, and potentially different service providers. Participants will need to understand the different rules, benefits, and drawbacks of each plan.

• Cost: Multiple retirement plans can mean additional administrative costs. Employers will need to consider whether the benefits outweigh these costs.

• Communication: Employers need to clearly communicate the benefits and rules of each plan to the participants to ensure they take full advantage of what’s on offer. This could require more comprehensive education and enrollment materials.

The decision to offer both a 401(a) and a 457(b) plan should be based on the needs and characteristics of the workforce, the financial resources of the employer, and the potential benefits to both the employees and the employer.

Conclusion

Understanding the nuances of different retirement savings options, such as 401(a) and 457(b) plans, is paramount to making informed decisions that will impact your financial future. 

Both these plans offer unique features and benefits, and selecting the right one—or even a combination of both—can significantly influence your retirement savings and the flexibility you have in managing those savings.

As we’ve discussed, 401(a) and 457(b) plans have distinct contribution limits, tax deferrals, and withdrawal rules. They also provide different levels of flexibility in terms of investment options and potential catch-up contributions for those nearing retirement age. 

Life events like changing jobs, divorce, or death can have specific implications on the handling of your 457(b) plan.

While these plans provide excellent opportunities to save for retirement, their benefits and rules can be complex. Therefore, it’s essential to seek advice from a financial advisor or retirement plan consultant to understand how best to utilize these plans based on your individual circumstances and goals.

Retirement planning is not a one-size-fits-all proposition. The right mix of strategies depends on your personal financial situation, your retirement goals, and the options available to you. 

By taking the time to understand these different retirement vehicles, you can make the choices that will help you build a secure and comfortable retirement.