Difference Between 403(b) and 457(b) (With Table)

403(B) and 457(b) are employer-sponsored and tax-favoured retirement plans available to public sector/government and nonprofit employees who are not offered the 401(k) plans. These plans generally work by deferring a part of the employees’ salary to a retirement fund while adhering to the rules and regulations put forward by the IRS and other competent authorities.

403(b) vs 457(b)

The main difference between 403(b) and 457(b) is that the latter does not impose any fine on the employee if he decides to leave his job and must make an early withdrawal whereas the former does. Usually, employees are eligible for either 403(b) or 457(b) but in certain cases, both are allowed to the employees.

403(b) generally can be offered by public schools however exemptions to this are provided under IRS section 501(c)(3) according to which certain other organizations are also allowed to offer 403(b) to their employees. This plan allows the employee’s investment to grow over time either tax-free or with deferred tax.

457(b) is commonly offered to employees who work under public sector authorities such as local and state governments. In certain cases, 457(b) can be established by other tax-exempted entities in accordance with IRS rules and regulations. The investment deferred from the salary of the employee increases tax-free in a separate account.

Comparison Table Between 403(b) and 457(b)

Parameters of Comparison403(b)457(b)
Employer ContributionIn accordance with the employee’s contribution.The option is available, but employers mostly choose not to.
Withdrawals10% tax penalty is levied in case of withdrawal of money before an age of 59.5No tax penalty is levied in case of withdrawal of money before an age of 59.5
EligibilityGenerally, for employees working for public schoolsFor employees working for local or state governments
Catch-up ContributionNo unique Catchup Contribution exist when compared to 457(b).Unique Catchup Contribution of up to $39,000 exist.
Coordination With Other plansIs coordinatedNot coordinated

What is 403(b)?

The elective deferral of 403(b) is $19,500 for the year 2021 and grows to an amount of $20,500 in the year 2022 with an additional catch-up contribution of amount $6,500 for 2021 and 2022, but this catch-up contribution can be used only if the individual is over the age of 50.

The employer is also allowed to make contributions towards the retirement fund which is matching to the contribution made by the employee, but the total amount should not exceed the total amounts of $58,000 and $61,000 for the years 2021 and 2022 respectively.

In the case of traditional 403(b) the contributions from the employee’s salary are made before income tax sheltering it from capital gain taxes and lowering the tax liability but because of this when you retire the withdrawals are regular income and the employee is obliged to pay regular income tax.

When the case of Roth 403(b) is considered the contribution to the plan is made after the taxes are deducted from the salary thus making the withdrawals after retirement from employment mostly tax-free including any growth the investments have made over time. For both traditional and Roth 403(b) penalty-free withdrawals are allowed only once the employee turns 59.5 years old.

What is 457(b)?

The 457(b) plan has an elective deferral as 403(b) but once the employee reaches three years within the normal age of retirement, he may be of making catch-up contributions up to the amounts of $39,000 and $41,000 for the years of 2021 and 2022 respectively. The only setback to this is that the maximum contribution in the last three years before retirement age is limited by the previous contributions made towards the plan.

Employees in the 457(b) plan must mostly be responsible for making a contribution to the retirement plan because even though the option to contribute towards the plan exists for the employer in practice such contributions are not made. Which at times may be seen as a disadvantage when compared to other employer-sponsored retirement plans.

The major advantage that 457(b) has over other such retirement plans is that it is able to outshine others in the aspect of withdrawals. If the employment is over before the retirement age according to the other retirement plans an extra penalty of 10% is levied on the employer, but in the case of 457(b) the employee is not liable to pay any such tax penalty.

Main Differences Between 403(b) and457(b)

  1. Both 403(b) and 457(b) are employer-sponsored retirement plans, but the former is likely to get better employer contributions in practice when compared to 457(b) which in most cases does not get any employer contribution.
  2. The main advantage that 457(b) has is that in most cases the employee is not liable to pay any tax penalty arising due to early withdrawal. In case 403(b) in a similar situation as mentioned before the employee must pay an extra 10% tax penalty according to rules and regulations imposed by IRS.
  3. 403(b) is mainly offered to public schools and to certain other non-profit organisations whereas 457(b) is offered to various governmental authorities.
  4. When 401(b) and 457(b) are evaluated based on the aspect of Catch-up Contribution 457(b) can be superior to 401(b).
  5. If an organization provides 403(b) along with some other retirement plan then the contribution to both of them are coordinated and the annual limit can not exceed $19,500 for the year 2021, but when 457(b) is provided with some other retirement plan the it need not be coordinated and contribution of $19,500 can be made to each of them.

Conclusion

401(b) and 457(b) are of utmost importance as a good retirement plan is crucial to a safe and comfortable future. Both have their own pros and cons. In cases where both are provided for selection to the employer, he must make the decision only after considering all the various aspects of the plans and choosing the option that is most well suited for him. Seeking professional financial advice for the same is highly recommended.

References

  1. http://search.ebscohost.com/login.aspx?direct=true&profile=ehost&scope=site&authtype=crawler&jrnl=15371816&AN=89934878&h=EHkx8zmnZJJ6nT6W6kmmVl6JG9JoCmKkJyXEVs0K6sISR4CRvsFNSeDliefXVyXAr3TRYoRvUA2VttaiWNeVDA%3D%3D&crl=c
  2. https://journals.sagepub.com/doi/abs/10.1177/0886368702238590
  3. https://link.springer.com/article/10.1007/s12122-018-9270-2