Government Plans

Although it may sound like a social welfare program or some type of conspiracy theory, a government plan or Internal Revenue Code Sec. 457 plan (457 plan) is nothing more than another way for certain types of employees to save for retirement. As originally enacted, 457 plans allow employees of state and local governmental units to defer compensation for retirement.

Today, 457 plans are also available to employees of certain nongovernmental organizations exempt from tax under Code Sec. 501. The tax-exempt organizations that can set up a 457 plan include trade associations, private hospitals, private clubs, cooperatives, private schools, and labor unions. However, 457 plans do not apply to church plans maintained by a church or qualified church-controlled organizations.

Technically, 457 plans are nonqualified deferred compensation arrangements. This just means that the Internal Revenue Code does not list this type of plan as a qualified plan. In practice, though, 457 plans increasingly share many of the same characteristics as qualified retirement plans. For example, tax law changes in 2001 raised contribution limits of 457 plans to the same limits as those for 401(k)s and 403(b) annuities. That is why 457 plans are discussed here in the qualified plan section rather than in the nonqualified plan section.

Warning A major drawback of working for the government or a tax-exempt organization is that such employers offer lower compensation packages than private employers. Employees who work for the government or for a tax-exempt employer frequently realize this fact on their own after a few years and move on to the private sector. Those who do not plan to move on, however, should fully realize that accepting a lower compensation package in the long run means seriously jeopardizing the ability to retire with any means of independent support. Earning lower wages before retirement results in the decreased ability to accumulate personal savings. At the same time, 457 plans have historically allowed less money to be saved, and therefore available, for retirement. Moreover, for those working for a nongovernmental tax-exempt organization that offers a 457 plan, the lack of security that such a plan offers (with plan assets being available to the employer's creditors) essentially denies a prudent investor the means to save any significant amount toward retirement. For some, the personal rewards of working for the government or a nonprofit organization may outweigh the financial rewards they are missing out on. Before making such a sacrifice, however, a person should really consider all they are giving up, including retirement benefits, when making their career choice.

To learn more about 457 plans, take a look at the following discussions:

• How a 457 Plan Works: Although participating in a 457 plan is easy to do, you should still be aware of how such plans operate and why a 457 plan may not work for you.
• 457 Plan Rollovers: Find out how your 457 plan contributions are affected when you switch jobs.
• 457 Plan Distributions: Although sometimes it may seem like it will never happen, there is some hope that you will eventually get to use the money in your 457 plan account. Before taking money out, however, learn the distribution rules that apply to 457 plans.