457 Plan

A 457 plan otherwise known as a compensation plan or a deferred compensation plan is an investment opportunity offered to individuals by a variety of entities including, but not limited to private organizations, tax exempt organizations, the state government or the local governments. The reason that a 457 plan is so called is because the IRS determines the rules, regulations and guidelines that such a plan must adhere to - the code 457 is attributed to the deferred compensation plan, hence the name 457 plan. A 457 plan differs somewhat to a 401k or a 403(b) plan, and the differences must be duly noted.


1. What is a 457 Plan?

So what exactly is a 457 plan? As mentioned previously, a 457 plan is a plan that is known as a deferred compensation plan and is offered to employees through an employer or agency. The 457 plan is a compensation plan that is established by contributions made by the employee via salary reductions. Any and all tax liabilities associated with a 457 plan and the contributions associated with it are deferred, hence the name "deferred" compensation plan. Provided by government agencies, a 457 plan is offered to various employees as a benefit of employment.

When an employee puts contributions into a 457 plan, the contributions are taken from the employee's pay before taxes have been deducted from the salary or compensation in question. The individual that makes contributions into a deferred compensation plan does not have to pay any taxes on the money placed into the plan until they decide to withdraw the money. There are some agencies that will add contributions for the employee, but many 457 plans are based on employee contributions only. The agency offering the 457 plan may also set specific limitations on who is eligible to participate in the plan as well. While some employers are willing to offer 457 plans to employees when their employment commences, others require a specific amount of time in title or vesting before the employee is eligible to participate in a 457 plan.

When it comes to 457 plans, the deferred compensation plans serve as a way for employees to ready themselves for the day they will retire from the job. One of the primary benefits derived from 457 plans is therefore found in the establishment of future financial stability. Another benefit found in having 457 plans is that the employee can minimize the amount of taxes they are paying to the IRS. As mentioned previously, the deferred compensation contributions are taken out as a payroll deduction and have a pre-tax status.

2. The Benefits of a 457 Plan

There are myriad benefits associated with deferred compensation plans for both the employer and the employee. First, employers that offer 457 plan contribution options have a way of providing their employees with a nice benefit; such a benefit is appealing and makes the employee more apt to remain with the company for the long term because of the retirement benefit offered. Second, since the 457 plan is a simple process, the employer has very few encumbrances in terms of managing a 457 plan.

Since a deferred compensation plan is an enticing and coveted benefit, many employers will find that by offering such a plan to employees they appeal to new applicant and maintain the number of current employees. Employees will deliver a level of quality and loyalty to the employer because they are rewarded with financial investment opportunities that may not be offered elsewhere. Thus, employee turnoff is subsequently reduced by employers that opt to offer a deferred compensation program to eligible employees.

Employees that are rewarded for their hard working efforts are far more productive than those who are not. A 457 plan can serve as a way to reward employees that remain dedicated to a specific job and position. Plus, deferred compensation plans are quite flexible in their structure and such plans are therefore often more desirable than other retirement plan options.

Employees also have advantages when enrolled in a 457 plan. Besides the reduced taxes, employees will find that they can actually make larger contributions into a 457 plan than they can in an Individual Retirement Account. Investing in a deferred compensation plan is totally convenient because the contributions are taken right out of the employee's check before taxes are taken out. In addition, if an employee desires to, they can move the 457 plan to another employer if they leave their current position and the next employer offers an opportunity to invest in a 457 plan.

3. Compensation Plan Contributions

There are limitations on what an employee can contribute to a deferred compensation plan each year; however the limitations are quite high. According to the Internal Revenue Service, the 457 code suggests that a 457 plan contribution limitation is, as of 2006, $15,000 a year for anyone under the age of 50. For those employees who are 50 years or older, the annual limit for a deferred compensation plan contribution actually increases to $20,000.00 a year. What's particularly nice about the deferred compensation plan is that when an individual reaches the point in his or her career when he or she is three years or less away from retiring, he or she can actually invest double the yearly limitations set on deferred compensation plans in some instances. From the latter data, it is easy to identify why deferred compensation plans are appealing; the 457 plan provides employees with a fast, tax deferred method of accumulating enough wealth to make retirement years considerably comfortable.

If an employee has not met the limit of eligible contributions in a single year, that remaining amount of the eligible contributions can be rolled over into the next year. For example, if an employee contributes 10,000 dollars into a deferred compensation plan in 2006 and the limit for that year is 14,000 dollars, the remaining 4,000 dollars can be added to the limits for the year 2007. Now, if the limits for contribution are 14,000.00 for 2007, the employee has a ceiling of contributions of 18,000 dollars for that year if they are less than 50 years of age.

4. More about 457 Plan Contributions

Typically, 457 plan contribution ceilings have increased about 1000 dollars annually. Employees that make the decision to start a deferred compensation plan must be aware of the contribution limitations. In addition, there are certain regulations that must be understood before one can begin a deferred compensation plan or one can actually begin to increase the amount of deferred compensation plan contributions made. Usually, there is a thirty day waiting period in place before contributions into a deferred compensation plan can begin. There is also a thirty day waiting period in place when employees raise the amount of the contributions they are putting into a deferred compensation plan.

Employees looking to determine how much they can contribute into a deferred compensation plan in order to accumulate a specific amount of wealth can do so by taking their targeted yearly contribution and dividing by the number of pay periods in a year to determine how much should be contributed each pay period. Due to the Economic Growth and Tax Relief Reconciliation Act, also known as EGTRRA, set forth in 2001, the rates of contribution in terms of a deferred compensation plan increased dramatically. Formerly, the limitations set on a deferred compensation plan contributions was equal to the less of 8,500 dollars our 33 1/3 percent of one's yearly income. Today, due to the 2001 Act, employees have a ceiling of 15,000 a year or 100 percent of one's yearly income, whichever is the lesser of the two.

5. Compensation Plan Provisions

As mentioned earlier, when an employee does not meet the ceiling in terms of contribution into a 457 plan one year, the remaining amount can be rolled over into the next. The latter fact is defined by the catch up provision associated with a 457 plan. Any year after January 1, 1979 is qualified for the rollover catch up provision increase. In other words, if an employee does not meet the maximum for one year in terms of deferred compensation plan contributions, the employee can use the amount not contributed left over and meet such contributions later. However, the latter catch up provision has limitations that employees need to be aware of; the Internal Revenue Service has placed a ceiling on the catch up provision of 11,000 dollars a year.

Anyone enrolled in a deferred compensation plan after the year 1979 is eligible for the catch up provision if they do not meet the yearly deferments allotted. What's particularly nice about the catch up provision is that employees who are eligible to join a deferred compensation plan, but for whatever reason decide that they do not want to right away, can later join a deferred compensation plan and utilize the catch up provision based on the years they were actually eligible to join into a deferred compensation plan.

6. 457 Plans vs. 403(b) Plan

There are a number of differences between a deferred compensation plan and other forms of retirement plans. For example, one can identify a number of differences between a deferred compensation plan and a 403(b) plan. First, when it comes to a deferred compensation plan or 457 plans, such plans are kept in a trust until the employee decides to retire and withdraw the funds. In contrast, a 403(b) plan is not kept in a trust, but owned and controlled by the employee.

An important consideration that one must take into account when comparing a 403(b) plan with a deferred compensation plan can be identified in the fact that an employee cannot necessarily get a loan against the deferred compensation plan like they can with a 403(b) plan. Also, there are no penalties for early withdrawal when it comes to a deferred compensation plan and, therefore, borrowing restrictions are far more rigid. If an employee plans to borrow against retirement in the future, it is easier to get a loan and/or withdraw from a 403(b) plan than it is to withdraw from a deferred compensation plan.

7. 457 Plan vs. 401k plan

While a 457 plan has a lot in common with a 401k, the plans are uniquely different. Previously, a 457 plan could not be rolled over into a 401k plan, but that law has since changed and now 457 contributions can be rolled over into a 401k plan if the employee desires to do so. In addition, 457 plans can be rolled over into the same type of plan if an employee changes employers. The rollover is nice because an employee can maintain the same balance in a 457 plan and they do not have to be forced to withdraw the plan early if they leave a job for another.

When it comes to a 401k plan, the employee can withdraw the funds when they turn 59 1/2 years of age. The 457 plan differs from the 401k plan considerably in this regard because an employee can withdraw the funds from a deferred compensation plan at the age of 50 without penalties imposed. Since the two different plans have different withdrawal regulations regarding the age of acceptable withdrawal, such regulations must be duly noted. If an employee decides to rollover funds from a 401k to a 457 plan or vice versa, the rolled over amount may be subjected to different withdrawal age regulations.

8. Using the Funds in a 457 Plan

It is possible to borrow funds against a 457 plan; however, the 457 plan may not be as liberal in terms of borrowing as some of the other retirement funds available for investment. If an employee does decide to borrow against a deferred compensation plan, they will be required to meet certain contribution requirements first. Depending on the plan, there may be limitations placed on the amount that an employee can actually borrow against a 457 plan.

Borrowing from a deferred compensation plan is usually only permitted in emergency situations. There is no penalty associated with a withdrawal from a 457 plan - that is why it is harder to borrow against them or to get a withdrawal before one retires. It is far easier to borrow against a 401k plan or a 403(b) plan than it is to get a loan against a 457 plan. The latter fact should be taken into consideration prior to enrolling in a deferred compensation plan.

As of the year 2002, a deferred compensation plan can be rolled over into an Individual Retirement Plan, a Roth, or a 401k. However, if the 457 plan is proved by a private tax exempt entity, than the plan cannot be rolled over. Nevertheless, the option to rollover funds is nice to have if the employee's 457 plan is deemed eligible for such a rollover.

9. Compensation Plan Distributions

When can an employee start receiving distributions from a deferred compensation plan? That depends on the regulations that define the deferred compensation plans in question. In most cases, the employee cannot get disbursements until they have obtained the age of 70.5 years of age. However, there are often exceptions to the latter rule.

When an employee leaves one employer to go to another, they may be able to withdraw the funds in a 457 plan. Also, if an employee can verify a financial emergency, they may be eligible to make withdrawals or to borrow against the 457 plan.

As mentioned earlier, an employee must give due consideration to the latter information offered before enrolling in a 457 plan. If an employee feels that at a future time they may need to borrow against invested retirement contributions, they may want to contribute to a 401k or a 403(b) plan instead of a deferred compensation plan. It is easier to borrow from such funds than it is a 457 plan.
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