The 457, like the 401(k), is a tax-advantaged plan that allows you to put a portion of your pretax income into retirement savings. Here, we’ll discuss the pros and cons of the 401(k) vs. 457 plans.
401(k) vs. 457: What’s the difference?
Perhaps the biggest difference is who can sponsor each plan. Private employers can only offer the 401(k), while the 457 is an uncommon retirement plan offered by state and local government agencies (but not the federal government), public employers, and certain nonprofit organizations.
How a 401(k) works
The 401(k) is a common retirement savings plan sponsored by an employer. A 401(k) allows employees to contribute a portion of their income to the retirement plan before taxes. The money compounds in the plan until retirement and is only taxed when withdrawn.
How a 457 retirement plan works
Like a 401(k), a 457 allows you to contribute pretaxed income to the plan, which compounds tax-free until withdrawal. Unlike 401(k) plans, a 457 is a tax-advantaged non-qualified retirement plan not covered under the Employee Retirement Income Security Act (ERISA). Thus, catch-up contributions and hardship withdrawals are handled differently than they are for a 401(k).
457 plans and ERISA
Because 457 plans are not covered by ERISA, they lack some of the safeguards put in place to protect 401(k) plans. By the same token, the lack of ERISA oversight frees the 457 from premature withdrawals before age 59 and a half. Funds withdrawn early are subject to normal taxation, but without the 10 percent early withdrawal penalty associated with 401(k) plans.
A 457 plan also allows withdrawals due to unforeseeable emergencies. Each plan will have its own list of circumstances that qualify as emergencies.
The contribution limits for a 401(k) and 457 differ slightly. Before you turn 50, the two plans have the same contribution limit: $19,000 a year. After age 50, both plans allow for catch-up contributions of $6,000 per year.
If a 457 plan allows it, employees can take advantage of the 457 double-limit catch-up provision.
In the last three years before normal retirement age (as specified by the individual 457 plan), employees can contribute up to $38,000 a year to their retirement fund. This special provision is not available with 401(k) plans.
The bottom line
Most employees don’t have to worry about choosing between 401(k) and 457 plans, as the 457 plan is only available to state and local government agencies and public employers.
Need more information on retirement funds? Check out the many different types of retirement plans we discuss in our comprehensive post on the topic.