Tip of the Week: ERISA Exemptions for 457 Plans

Section 457 plans are generally subject to ERISA unless exempted by statute. Since ERISA exempts all plans sponsored by state or local governments, their political subdivisions or instrumentalities thereof, any 457 plan installed by a public education institution, police department, fire department, public library board, public utility board, etc. will not be subject to the additional requirements of ERISA. IRC §457 plan rules do not apply to churches and qualified church controlled organizations (as defined in IRC §3121(w)) at all.

Religious organizations other than churches or QCCOs as described in IRC §414(e) are subject to the Code requirements applicable to 457 plans; however, they are not subject to the additional ERISA requirements unless those organizations affirmatively elect ERISA coverage.

If a plan is subject to ERISA, then under the terms of ERISA, the plan must be available to a broad-based group of employees, must be fully funded, and plan assets must be set aside in a protected account, such as a trust, annuity contract or custodial account. However, IRC §457(a) requires all nongovernmental 457 plan assets to be unfunded; that is the assets of the plan must be available to the sponsor’s general creditors. This creates a “catch-22” for nongovernmental 457 plans. To satisfy the Code, the 457 plan assets must NOT be set aside in a protected account, but to satisfy ERISA, the plan assets MUST be set aside in a protected account!

Therefore, a nongovernmental employer can only satisfy the requirements of both the Code and ERISA if it establishes a 457 plan that qualifies for an exemption from the funding requirements of ERISA. The method used by most 457 plans to avoid the funding requirements of ERISA is to restrict participation in the plan to a “top hat” group of employees. A “top hat” plan is exempted from most of ERISA, including the requirement to fully fund the benefits and protect the assets in a trust.

Editor’s Note: This is an occasional feature in the NTSA Advisor. It is drawn from The Source, a book that covers technical, compliance, administrative and marketing aspects of the 403(b) and 457(b) markets. More information about The Source is available here.