Similar to 403(b)s and 401(k)s, 457 plans offer tax-deferred investment opportunities; however, any withdrawal that does not end up in an IRA within 60 days is regarded as a distribution that must be taxed at ordinary income rates.
There are various strategies available to you for avoiding this tax; among them is rolling over distributions into an IRA.
Taxes
457 plans share many similarities with traditional retirement savings accounts such as 401(k)s and 403(bs), yet have their own set of regulations pertaining to how they can be transferred between employers. Unfortunately, these regulations can become confusing when combined with multiple retirement accounts.
Similar to 401(k) and 403(b) accounts, 457(b) plans allow employees to make tax-deductible contributions into investment options that grow tax free until withdrawal. They are available to governmental workers as well as some nonprofit organizations like hospitals and charities as well as some private corporations.
Moving funds from a 457(b) plan into an IRA can be done one of three ways. Trustee-to-trustee transfers are the quickest and simplest solution; otherwise you may transfer via check as long as it’s redeposited within 60 days – otherwise, any distribution would be considered ordinary income and taxed according to normal rates; additionally if under age 59.5 an early withdrawal penalty will apply as well.
Withdrawals
A 457b plan allows employees of state and local government bodies, nonprofit organizations, and some educational institutions to save pre-tax money for retirement. Much like 403(b), 401(k), or traditional IRA plans, 457(b)s offer tax-deferred growth on investment earnings while withdrawals taken during retirement will incur tax liability according to ordinary income tax rates.
2023’s maximum annual contribution limit for 457(b) plans will be $22,500, plus catch-up contributions of up to $7,500 from workers aged 50 or older. Investment options typically include annuities and mutual funds; however, target-date funds provide another alternative by managing multiple mutual funds and gradually becoming more conservative as retirement nears.
Concerns with non-governmental 457(b)s include their inability to be transferred into other savings vehicles like 401(ks), and being subject to your employer’s creditors if you leave. Furthermore, early withdrawal rules are stricter than other accounts such as 401(k)s; thus resulting in penalties and taxes of 10% of any funds withdrawn prior to reaching age 59 1/2.
Transferring to an IRA
Bringing all your accounts under one IRA may make sense if they come from multiple employers. IRA accounts usually offer more investment options that fit better with your retirement goals and risk tolerance than 457(b) or 403(b).
An IRA provides another significant benefit: no early withdrawal penalty! This could save significant sums over your lifetime.
Withdrawals made prior to reaching age 59 1/2 are subject to regular income taxes and an early withdrawal penalty of 10%; however, withdrawals made in response to an unforeseeable emergency such as medical costs, home eviction or foreclosure proceedings, funeral costs or damage from casualty do not incur this fee. Consult your financial advisor if an IRA might be right for you.
Rolling over to a 401(k)
Similar to 401(k) and 403(b) plans, 457 plan contributions are subject to tax at an employee’s marginal tax rate when made, but earnings within the account grow tax-free unlike with taxable investments. When withdrawing funds from this account however, withdrawal is subject to ordinary income rates.
As an employee approaches retirement, it may make sense for him or her to transfer funds in their 457(b) plan into an individual retirement account (IRA). The IRS provides rules for tax-deferred accounts like an IRA and tax-qualified plans such as 401(k), 403(b), and government 457(b).
If a participant meets certain criteria, their 457(b) account can also be used for unanticipated expenses such as medical or funeral bills, purchasing their first home, or severe financial hardship. This process is known as direct rollover; its goal is to make asset transfers simpler by directly moving assets from their previous account into their new one.
