New Age of Selling and Educating, Part 2

Editor’s Note: This is the second of a two-part series. Part 1 is available here. 

What is the best choice: 403(b) or 457(b)? 

The simple answer is both. The 403(b) and 457(b) are excellent plans to accumulate money for retirement, but we should help participants understand the differences. Before we can do that, let’s take a look at the key benefits of the 457(b) plan.

Let’s take a closer look at both.

457(b) 

• While other plans generally do not allow penalty free distributions until you are 59½ years old, your 457(b) benefits become available when you no longer work for the employer providing the 457(b) plan or in some cases, when you attain age 59½. 
• Elective deferrals do not count towards the participant’s 402(g) contribution limit, allowing them to save even more money tax-deferred. As long as you are no longer employed, you can take your money from the plan without incurring an early withdrawal penalty of 10% (regardless of your age).
• If you leave your job, you can also roll over your account into a traditional IRA, convert to a Roth IRA, or another sponsored retirement plan such as a 401(k) or a 403(b) plan. However, you may be subject to the 10% premature distribution penalty when moving to another plan if you are under age 59½.
• If the employer has a Section 218 agreement in place, some or all of their employees are not covered under Social Security. In these cases a FICA replacement plan can be established by the employer. Generally, contributions are required where between the employee and the employer a total of 7.5% must be contributed into a retirement plan. Many public schools use a 457(b) for this purpose. These plans are complicated and should be designed and researched by a TPA that is familiar with these plans.

403(b)

• Distributions taken before age 59½ are subject to a 10% early-withdrawal penalty unless a special exception applies and all normal distributions are taxed as ordinary income (federal and state taxes). 
• Required minimum distributions (RMDs) must begin at age 72, unless you are still employed (this rule applies to 457(b) plans as well). The age for RMDs was 70½ until it was raised by the SECURE Act of 2019. 
• Participants can avoid RMDs if they roll the plan into a Traditional IRA, convert to a Roth IRA or other employer plan that contains a Roth source under the plan. Failure to take a required minimum distribution will result in a 50% excise tax on the amount that should have been withdrawn.
• Qualified Roth distributions are tax-free. Generally, employees must have the account open for at least five taxable years and be at least age 59½ (death or disability also applies). 
• Loan provisions may also be available at the employer's discretion.

So given the benefits of the 457(b), the first question we should ask ourselves is, “why are we only offering the 403(b) to participants?” Sometimes it may be because it’s the only option available in their school district, but it also could be the path of least resistance; I would say in many cases it’s the latter. 

With more and more school districts utilizing the services of a TPA, the process of adding a 457(b) option has become much easier than in the past. However, the fact still remains that the vast majority of K-12 employees are steered to a 403(b).

We have a responsibility to not only understand the plans that are available to participants, but to also work with the district and TPA to make sure all of the options are available. Participation rates have clearly begun to move in the right direction; now let’s work together in providing the most appropriate options.

Paul Prete, CRES, AIF, is the Director of Advisor Relationships at PenServ Plan Services, Inc.

Opinions expressed are those of the author, and do not necessarily reflect the views of the NTSA or its members.