What Is a 457(b) Plan and How Does It Work?

A 457(b) plan is a type of deferred compensation retirement savings plan offered by certain employers in the United States. It allows employees to set aside a portion of their income on a tax-advantaged basis, reducing current taxable income. Funds grow tax-deferred until withdrawals in retirement, when distributions are taxed as ordinary income. These plans are available to employees of state and local governments, and some tax-exempt organizations.

Core Features of a 457(b) Plan

A 457(b) plan is an eligible deferred compensation plan under Internal Revenue Code Section 457, established by a governmental unit or a tax-exempt organization under IRC Section 501(c). The distinction between these two types is important due to differing rules and protections, as both allow employees to defer compensation that grows tax-free.

Governmental 457(b) plans are available to all employees of state and local government entities, including police officers, firefighters, and public school teachers. Contributions are held in a trust or custodial account for the exclusive benefit of participants and their beneficiaries. This structure protects assets from the employer’s creditors, similar to 401(k) plans. Governmental plans also offer more flexibility regarding distributions and rollovers.

Non-governmental 457(b) plans are offered by tax-exempt organizations that are not governmental units, such as certain hospitals or universities. These plans are limited to a “select group of management or highly compensated employees,” often called “top-hat” plans. Unlike governmental plans, assets remain general assets of the employer and are subject to creditors in the event of bankruptcy. Participation is restricted to a smaller, more senior group, exempting them from many Employee Retirement Income Security Act (ERISA) protections.

Contribution Rules

Individuals can contribute to a 457(b) plan through payroll deductions, either pre-tax or Roth (after-tax). For 2025, the standard elective deferral limit is $23,500, or 100% of includible compensation, whichever is less. This limit is separate from contributions to other retirement accounts like 401(k)s or 403(b)s, allowing for higher overall retirement savings.

Participants aged 50 or older are generally eligible to make additional “catch-up” contributions. For 2025, this age-based catch-up contribution is $7,500, raising the total possible contribution for those 50 and over to $31,000. This age 50 catch-up provision is typically available only in governmental 457(b) plans.

A special 457(b) catch-up provision, often called the “three-year rule,” applies to both governmental and non-governmental 457(b) plans. This rule permits participants within three years of their plan’s normal retirement age to contribute up to twice the standard elective deferral limit. The amount is based on unused deferral amounts from prior years, meaning participants cannot use this if they have consistently maxed out their contributions. For 2025, this could allow contributions up to $47,000, but participants cannot utilize both the age 50 catch-up and this special catch-up in the same year.

Some plans may also offer an additional catch-up provision for employees aged 60 to 63, allowing an extra $11,250 in contributions for 2025. This provision, stemming from the SECURE 2.0 Act, means participants in this age range could contribute up to $34,750 in total, if their plan adopts it.

Pre-tax contributions reduce current taxable income, with taxes deferred until funds are withdrawn in retirement. Many plans offer a Roth 457(b) option, where contributions are made with after-tax dollars. While Roth contributions do not provide an immediate tax deduction, qualified withdrawals in retirement are entirely tax-free.

Accessing Your Funds

Accessing funds from a 457(b) plan is generally permitted upon certain events, such as separation from service, reaching age 70½ for required minimum distributions, death, or disability. The taxation of distributions depends on how contributions were made. Pre-tax funds and earnings are taxed as ordinary income upon withdrawal. Qualified Roth 457(b) distributions are tax-free, provided conditions like the account being open for five years and the participant being at least 59½ years old are met.

Governmental 457(b) plans are exempt from the 10% early withdrawal penalty that typically applies to other retirement plans if taken before age 59½. This exemption applies if the distribution occurs after separation from service, regardless of the participant’s age. However, this penalty exemption does not generally extend to non-governmental 457(b) plans, nor if governmental funds are rolled into an IRA and then withdrawn early.

In-service withdrawals are typically limited but allowed under specific circumstances, such as an “unforeseeable emergency.” The IRS defines this as severe financial hardship from illness, accident, property loss due to casualty, or other extraordinary circumstances beyond the participant’s control. The amount withdrawn must be reasonably necessary and cannot be relieved through other means like insurance or liquidating other assets.

Loans are generally permitted in governmental 457(b) plans, allowing participants to borrow against their vested account balance and repay it with interest. Specific terms, such as loan limits and repayment schedules, are determined by the individual plan. Non-governmental 457(b) plans typically do not permit loans.

Upon separation from service, governmental 457(b) plan participants have flexible options for their funds. They can roll over their account balance into another governmental 457(b) plan, a 401(k), a 403(b), or an Individual Retirement Account (IRA). These rollovers maintain tax-deferred status. Non-governmental 457(b) plans have much more limited rollover options, often only allowing transfers to another non-governmental 457(b) plan or requiring a taxable distribution upon separation.