457b Deferred Compensation Plan: Supplemental Savings for our State and Municipal Workers:
What is 457b/Deferred Compensation?
457b`s are a supplemental tax preferenced savings plans for employees that work for the state or municipal government. They provide a defined contribution (401k-like) program as a supplement to an employee’s defined benefit (such as a state pension or police & fire pension) program.
These programs provide important tax preferences (pretax or roth – See article below if you need further explanation) to help our civil servants save in addition to their primary retirement plan (state pension or police & fire pension). With the trend of public pensions reducing benefits and the probable likelihood that Social Security will reduce future benefits, it is becoming increasingly more important for employees to understand and utilize these programs.
Who can contribute to a 457b?
Generally, any employee of a state/municipal government entity who works more than 20hrs a week and contributes more than $200/yr must be allowed to participate in the organization’s 457b, but in practice most organizations will let almost any employee contribute.
How much can be contributed (as of January 2016)?
- Employee deferrals – $18,000/yr.
- Plus $6,000/yr catch-up if you’re over 50.
- There is an ability to put additional funds in the last 3yrs before retirement if the employee qualifies.
- With employer contributions the total cannot exceed $18,000/yr ($24,000/yr with catch-up).
- The 3yr catch-up provision could effect this number as well, but you should talk with your plan’s TPA.
Why is Deferred Compensation different that other retirement plans?
First, you must understand that a 457b is not truly a retirement plan like the other retirement plans (like 401k, 403b, IRAs, etc), which give a tax preference to save for retirement and a tax penalty for premature withdrawals. Instead, deferred compensation is exactly that: your employer is deferring your compensation until some future date when they will give it back to you and taxes will be due (except for your Roth contributions). So to summarize:
- You still receive tax preferences to help save for retirement.
- There are no tax penalties for premature distributions:
- This allows for civil servants, like police and firemen, who may retire ~52 yrs old to not receive tax penalties.
- However, generally, as long as you work for the same employer you cannot withdraw funds until 70 1/2 yrs old.
- An important note is that 457b does not affect the maximum limits for 403b and 401k plans so a participant who has access to both plans could max them both out.
- This works especially well for public school/university teachers/faculty/staff who have high taxable incomes.
How should I invest?
Investing is not simple and there is no easy “silver bullet” to apply to all situations. However, having a balanced, disciplined, and diversified approach can help you on your way to a successful financial future:
*Remember, each individual is different and needs to devise (or consult with a professional) a strategy that meets his/her’s individual circumstances.
Should I save Pretax or Roth?
This optimal choice is not universal and may actually change for you throughout your lifetime:
As of 2011, the IRS has finally given you the option (although many employers still may not offer this option) to save pretax or roth. Depending on what your income/tax circumstances are today versus where you perceive them to be in the future, this choice could make a huge difference in the amount of retirement savings you will have after-taxes in retirement. Furthermore, it is important to note that changing personal circumstances, tax laws/rates, and other variables could change the option(s) that are best for you.
Traditional vs. Roth IRA
One or the other? Perhaps both traditional and Roth IRAs can play a part in your retirement plans.
Try our calculator:
What institutions can I enroll in a 457b with rF as my advisor?
*No advice on this subject can be truly universal or objective, you should consult with your appropriate financial, tax, and/or legal advisor about your individual circumstance(s) before taking any action.
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