Roth IRA or 457 Retirement Plan: What's the Difference?

Roth individual retirement accounts (Roth IRAs) and 457 plans are tax-advantaged ways that can help you save for retirement. Although the end goal is the same, they do work very differently. Anyone with earned income can open and contribute to a Roth IRA, provided they meet the income limits.

By comparison, 457 plans are only available to employees of certain types of organizations. But what if you're able to contribute to both? If you are eligible for a Roth IRA and a 457 plan, there are some important factors you must consider before you make your contributions. We've listed some of the most common ones below.

What Is a 457 Plan?

A 457 plan is one of several retirement plans that employers can make available to their workers. Private, for-profit companies often sponsor 401(k) plans, while nonprofits, hospitals, and public school systems may use 403(b) plans.

Some state, local government, and nonprofit employers offer yet another option: the 457 plan. All three of these plans have many of the same tax advantages. They are similar to 401(k) plans but come with their own sets of rules and tax advantages that eligible investors must consider before they begin participating.

How 457 Plans Work

Your contributions to a 457 plan (or a 457(b), as it’s often called) are made with pretax dollars. This means you don’t pay taxes on the money you put into the plan until you withdraw it later in life.

As with a 401(k), an employer can match your 457 contributions. If you invest $1,000 per month and your employer matches at 50%, you get $500 of free money every month. Your contributions, including the match (if there is one), can’t exceed the total annual contribution limit.

457 Plan Contribution Limits

For 2023, you could contribute up to $22,500 ($23,000 in 2024). If you are age 50 or older, you can make an additional $7,500 catch-up contribution ($7,500 in 2024). That increases your annual limit to $30,000 ($30,500 in 2024)—the same limit as 401(k)s.

But unlike a 401(k) or 403(b) plan, a 457 plan may allow you to make a special catch-up contribution for three years before your regular retirement age. If your plan permits, you can contribute the lesser of the following:

• Twice the annual limit, which equals $45,000 in 2023 ($46,000 in 2024)
• The basic annual limit plus the amount of the basic limit not used in prior years (this only applies if you don’t make the regular age 50-plus catch-up contributions)
  

So, if your plan specifies 65 as your retirement age, you can contribute up to the $45,000 limit in 2023 once you are 62 years old. Keep in mind that your contribution cannot be more than your annual salary.

When Do You Pay Taxes on 457s and Roth IRAs?

While both 457 plans and Roth IRAs offer tax advantages, they are the exact opposite in terms of when you get your tax break. As mentioned earlier, contributions to 457 plans are made with pretax earnings. You enjoy an up-front tax break since the contribution lowers your taxable income for the year. But you pay taxes on the money you withdraw during retirement.

With a Roth IRA, you do not get an up-front tax break, which means you pay your taxes when you make the contribution. But your contributions and earnings grow tax-free and are withdrawn tax-free in retirement.

Roth IRA Contribution Limits

For 2023, you can contribute up to $6,500 per year to a Roth IRA ($7,000 in 2024), or $7,500 if you are age 50 or older ($8,000 in 2024), as long as you meet the income limits set by the Internal Revenue Service (IRS).

If you’re married and file taxes jointly, you can make the full contribution if your modified adjusted gross income (MAGI) is less than $218,000 for 2023 ($230,000 in 2024).

Early Withdrawals from 457s and Roth IRAs

Unlike other employer-sponsored retirement plans, you can withdraw money from your 457 plan before the age of 59½ without incurring a penalty. But remember, the taxes on the withdrawal still apply.

With a Roth IRA, you can withdraw your contributions (but not the earnings) at any time and for any reason without any tax or penalties. Withdrawals of earnings are only free from taxes and penalties if your account is at least five years old and you are age 59½ or older.

If you are younger than 59½, you may be able to avoid taxes and penalties if:

• You use the money for a first-time home purchase
• You have a permanent disability
• You pass away, and your beneficiary takes the distribution

The Bottom Line

With so many ways to build your nest egg, deciding where to put your money can be difficult; however, it's possible to save for retirement in multiple accounts, including 457 plans and Roth IRAs. That way, you can save more for retirement while enjoying more flexibility now—and in the future when it's time to tap those funds.