A 457 plan is a retirement savings account offered by certain employers, typically government entities and certain non-profit organizations, to help employees save for retirement. Named after the section of the Internal Revenue Code that governs them, 457 plans offer valuable tax advantages and a range of investment options to participants.
Contributions: One of the key features of a 457 plan is the ability to make pre-tax contributions. This means that the money you contribute to the plan is deducted from your salary before taxes are calculated. This reduces your taxable income for the year, potentially lowering your overall tax bill. In 2021, the annual contribution limit for 457 plans was $19,500, with an additional catch-up contribution of $6,500 allowed for participants age 50 and older.
Tax Deferral: Another advantage of 457 plans is the tax deferral on investment earnings. Any interest, dividends, or capital gains generated within the plan are not subject to taxes until you withdraw the funds during retirement. This allows your investments to potentially grow more quickly than they would in a taxable account.
Withdrawals: When you retire, you have several options for accessing the funds in your 457 plan. One common option is to take regular withdrawals, which can be scheduled to provide you with a steady stream of income throughout your retirement. These withdrawals are taxed as ordinary income, and you can choose how much to withdraw each year within certain limits.
Rollovers: If you change employers or retire from a government or non-profit organization, you may have the option to roll over your 457 plan funds into another retirement account, such as an Individual Retirement Account (IRA) or another employer-sponsored retirement plan like a 401(k). This can be a strategic move to continue deferring taxes and potentially have more investment options.
Penalty-Free Early Withdrawals: Unlike some other retirement accounts, 457 plans offer unique flexibility when it comes to early withdrawals. If you retire or separate from service, you can generally withdraw funds from your 457 plan without incurring the usual 10% early withdrawal penalty, regardless of your age. However, you will still owe income taxes on the amount withdrawn.
Required Minimum Distributions (RMDs): Once you reach age 72 (or 70½ if you reached this age before January 1, 2020), you must start taking required minimum distributions (RMDs) from your 457 plan. These are minimum amounts you must withdraw each year to ensure the government collects the taxes it deferred during your years of contributions. Failing to take RMDs can result in significant penalties.
In summary, 457 plans are a valuable retirement savings tool for employees of government and certain non-profit organizations. They offer tax advantages, flexible withdrawal options, and the ability to defer taxes on investment earnings. When you retire, you can access your 457 plan funds through various means, including regular withdrawals, rollovers, and penalty-free early withdrawals. Properly managing your 457 plan can help you achieve your retirement goals and maintain financial security in your later years.