457(b) vs. 401(k): Which Should You Choose?

Your choice may depend on your age and your employer

Woman at desk studying monitor
••• Kelvin Murray / Getty Images

Both 401(k) plans and a 457(b) plans are retirement accounts that can help you save money to fund your golden years. A 401(k) plan can be offered by any employer, but a 457(b) plan is offered mostly by state and local governments to their workers. It's key to know how these accounts work before you start saving to one of them or both.

457(b) vs. 401(k) Plans

 457(b) Plans  401(k) Plans
Offered by state and local governments to their workers May be offered by any employer
Contribution limit is the lesser of 100% of employee's includable pay, or $19,500 Salary deferral limit is $19,500 for 2021
No early withdrawal penalty 10% penalty applies on early withdrawals

Eligibility Factors

Certain nonprofit employers can offer 457(b) plans, but they're mostly offered to government workers. Some large government employers offer both 401(k) and 457(b) plans, letting their workers save to both. This gives them a chance to save twice as much.

Government employees include officials at the state or local level, public school teachers, county and city workers, law enforcement, and first responders. Nonprofit and for-profit companies, as well as by some government bodies that began the plans before May 6, 1986, may offer 401(k) plans.

The Employee Retirement Income Security Act of 1974 (ERISA) doesn't cover 457(b) plans, but it covers 401(k) plans.

Plan Limits

The salary deferral limit is how much of your pre-tax pay you can divert to a 401(k) plan. The limit is $19,500 as of 2021, which is unchanged from 2020. You can also make catch-up contributions of up to $6,500 if the plan permits it. You must be age 50 or older to make these savings.

The limit for all savings to 457(b) plans is the lesser of 100% of the worker's includable pay or the elective deferral limit. The elective deferral limit for 457(b) plans for 2021 is also $19,500, unchanged from 2020.

You can save the lesser of twice the limit—$39,000 in 2021—or the basic limit per year plus any amount of the basic limit that you didn't use in prior years. This rule applies for the three years leading up to the retirement age cited in the plan. It's only allowed if you're not making catch-up contributions.

The IRS allows you to save to both a 401(k) and 457(b) plan at the same time because a 457(b) plan is a nonqualified plan.

Early Withdrawal Penalties

Saving to both types of plans allows you to double your tax-deferred savings and reduce the income on which you're taxed. Having both types of accounts can be helpful if you need to withdraw money because there are no early withdrawal penalties on a 457(b) plan.

You won't pay taxes on any tax-deferred retirement savings as long as the money remains in the account, but you must pay income taxes on the withdrawals from a traditional 401(k) account. You also can be subject to a 10% early withdrawal penalty on top of any income tax if you make a withdrawal before age 59½.

You'll pay income tax on withdrawals from a 457(b) plan, but these aren't subject to the early withdrawal penalty so you won't be hit with that extra 10% fee.

You can withdraw the excess from your 401(k) plan up until the tax filing deadline, which is April 15 in most years, if you're not yet age 59½ and you realize that you've gone over your limit. The amount still counts toward your gross income for that year, but you'll be spared the penalty.

Special Considerations

Employers that fund 401(k) plans often match a portion of the savings made by their workers. They can do this up to the limit, which is the lesser of 100% of a worker's pay or $58,000 for 2021, up from $57,000 in 2020. This limit includes both the worker's and the employer's contributions combined.

You can save $19,500, and your employer can contribute $38,500 as of 2021, for total savings of $58,000.

One catch with a 457(b) plan is that it's not common for the government to offer a match. It treats 457(b) plans as "extra" savings plans because many state and local workers are also eligible for pensions.

Which Is Right for You?

Saving to both types of plans—and how much you save to each—can depend on your age. You can tap into a 457(b) plan before age 59½ without a tax penalty, so this might be the focus of your savings when you're young. You can get to the money if you need it before you stop working.

You might want to save to a 401(k) instead if you're nearing retirement age and your employer offers matching savings. You can take full advantage of your working years and accept that free money received from your job as the clock ticks down.

It can depend on your personal circumstances, so seek the advice of a financial advisor if you're at all unsure. Tax laws and rules change often, so always consult an expert before making a big decision.