Congress has long recognized the need to encourage workers to set aside money during their working years to provide for their own income in retirement. Historically, workers could cover basic retirement income needs with a workplace pension. As these pensions became less widespread, however, Congress instituted programs to help workers set aside their own money on a tax advantaged basis. The 403B and 457 plans are both tax-deferred retirement savings programs designed for government employees and workers at nonprofit institutions.
Section 403b Plan Description
Contributors must be employees of tax-exempt organizations as defined by Section 501(c)(3) of the Internal Revenue Code, public school system employees, employees of hospital co-ops, faculty or staff members of the Uniformed Services University of the Health Sciences, or selected ministers. Employees defer a portion of their salary. Taxes on that salary are deferred until retirement after age 59 and a half. There are no capital gains taxes on any trades made within the account.
403b Advantages and Disadvantages
The 403b plan offers higher contribution limits than IRAs: up to $16,500 per year as of 2010. Contributors over 50 can contribute another $5,000 per year in catch-up contributions. Additional restrictions apply based on the contributor's income. Assets under 403b also enjoy some protection against the claims of creditors in most states. Some employers match contributions. Disadvantages include poor liquidity; the 10 percent penalty on early withdrawals is added to the income tax due. Beginning at age 70 and a half, you must begin making minimum required distributions -- and paying taxes on those distributions -- regardless of whether you need the money.
Section 457 Description
Section 457 plans are considered non-qualified. That is, they are not governed by rules set forth in the Employee Retirement Income Security Act of 1974. Employees defer salary and other compensation pre-tax. There is no deduction; the money simply does not show up as taxable income on a W-2 in the first place. The plans are structured similar to 401k and 403b plans except there is no 10 percent penalty imposed on withdrawals prior to age 59 and a half. As of 2010, the maximum contribution limit to a 457b plan was $16,500, though taxpayers over age 50 may qualify for an additional $5,000 per year in catch-up contributions.
Section 457 Advantages and Disadvantages
Plans under section 457 offer valuable tax-deferral benefits, and the lack of a 10 percent penalty on early withdrawals before age 59 and a half makes it an attractive option compared with Section 403b plans. However, these advantages are countered by certain disadvantages: You cannot roll 457 plan assets into an IRA and the plans provide little protection against the claims of creditors. Certain kinds of 457 plans, called 457f plans, involve a substantial risk of forfeiture. If the entity holding your assets goes bankrupt, you could lose all your money.
