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401(k) Plans vs. 457(b) Plans

Saving for Retirement is a Concern for Everyone

We all want to be sure that we have enough money in our retirement savings to live comfortably when we reach the age where working and earning wages is no longer possible. Today, the way most people save for their future is through an IRS-sanctioned, tax-advantaged retirement savings plan offered through their employer. There are two common types of retirement plans:

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  • 401(k) plan, which is offered by private, for-profit companies and some nonprofit ones.
  • 457(b) plan, which is less common and only offered to state and local public employees (for example, people working
    in government, for a public school or state universities).

Understanding the differences between these two plans is important. A 401(k)-retirement savings plan is defined as a "qualified retirement plan," which means it is subject to the rules and guidelines laid out by the Employee Retirement Income Security Act of 1974 (ERISA). One of the conditions of this act is about premature or early withdrawals from your retirement savings.

With a 457(b), on the other hand, there is no penalty as long as the participant no longer works for their employer or they have an unforeseeable emergency. This is possible in a 457(b) plan because it is a non-qualified retirement savings plan and thereby isn't governed by the ERISA. However, any premature withdrawal from your 457(b) savings is still subject to standard income tax.

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People are encouraged to start their retirement savings as early as possible. The more you save early on, the better. If you didn’t start saving early for retirement, savings plans, like a 401(k) or 457(b), have various ways that someone can "catch up" by contributing more than the usual max yearly contribution. For example, both plans have an age 50+ catch-up option that lets you put an additional amount towards your retirement savings. For current limits, consult the IRS website.

While it is advised that you don’t make early withdrawals from either retirement savings plan, as doing so with a 401(k) will incur a penalty, both plans have exceptions. A 401(k) refers to this exception as a “financial hardship,” while a 457(b) plan calls it an “unforeseeable emergency.” In either case, these provisions aim to define circumstances that make it okay to make an early withdrawal.

As these plans are offered based on the type of employer an individual has, there’s rarely a choice. Overall, both are very similar but 457(b) plans have a few more provisions with regards to catch up contributions and early withdrawals.

For more information on financial planning for retirement, access the full article here.

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