Making the decision between a 457 and Roth IRA can be difficult. Both options offer unique benefits and drawbacks, making it hard to determine which is the right choice for you.
In this personal finance guide, we will compare 457 Vs Roth IRA and help you decide which option is best for your individual needs. We will look at the advantages and disadvantages of each option, as well as how each one can help you save for retirement!
457 Vs Roth IRA Table of Contents
What is a 457?
A 457 is a retirement savings plan that is sponsored by an employer. Employees can choose to have money deducted from their paycheck and deposited into the account, or they can make contributions on their own.
The money in the account grows tax-deferred, meaning that employees do not pay taxes on the growth of the account until they withdraw the money in retirement.
What is a Roth IRA?
A Roth IRA is an individual retirement account that offers tax-free growth and tax-free withdrawals in retirement.
Contributions to a Roth IRA are made with after-tax dollars, meaning that employees have already paid taxes on the money before it is deposited into the account. This means that employees will not pay taxes on the money when they withdraw it in retirement.
What is The Difference Between a 457 and a Roth IRA?
The biggest difference between a 457 and a Roth IRA is the contribution limits. For a 457, you can contribute up to $18,500 per year (or $24,500 if you’re over 50).
For a Roth IRA, the limit is $6000 ($ 7000 if you’re over 50). So, if you have the option to contribute to both a 457 and a Roth IRA, you can potentially sock away a lot more money with the 457.
Another big difference is that contributions to a 457 are not tax-deductible, while contributions to a Roth IRA are. So, if you’re in a high tax bracket, it may make more sense to contribute to a Roth IRA.
The final big difference is that withdrawals from a 457 are taxed as ordinary income, while withdrawals from a Roth IRA are tax-free. So, if you think you’re in a lower tax bracket when you retire, it may make more sense to go with the 457.
What Are The Different Types of 457?
There are two types of 457 plans: deferred compensation plans and non-qualified deferred compensation plans.
Deferred Compensation Plan
Deferred compensation plans allow employees to set aside a portion of their salary each year, before taxes are taken out. The money in the account grows tax-deferred, and employees don’t pay taxes on it until they withdraw the money, usually at retirement.
Non-qualified Deferred Compensation Plan
Non-qualified deferred compensation plans are similar to deferred compensation plans, but they don’t have the same tax benefits.
Employees still set aside a portion of their salary each year, but they pay taxes on the money when they contribute it to the account. The money in the account grows tax-deferred, and employees don’t pay taxes on it until they withdraw the money, usually at retirement.
What Are The Different Types of Roth IRA?
There are two types of Roth IRA:
- Traditional Roth IRA
- Roth 401(k).
The major difference between the two is that the Traditional Roth IRA is funded with after-tax dollars, while the Roth 401(k) is funded with pretax dollars.
What Are The Advantages of a 457?
One of the biggest advantages of a 457 is that it allows employees to save more money for retirement on a tax-deferred basis. This means that employees can put more money into their 457 than they could if they were saving in a taxable account. This can lead to a larger nest egg come retirement time.
Another advantage of a 457 is that it offers more flexibility than some other retirement savings options. For example, employees can take withdrawals from their 457 before they reach retirement age without having to pay a penalty. This can be helpful if an employee needs to access funds for an unexpected expense.
What Are The Advantages of a Roth IRA?
There are a few key advantages that a Roth IRA has.
The first is that contributions to a Roth IRA are made with after-tax dollars, which means that you won't have to pay taxes on the money when you withdraw it in retirement.
Second, there is no required minimum distribution for a Roth IRA, which means you can leave the money in the account to grow tax-free for as long as you want.
Finally, Roth IRA withdrawals are generally taxed at a lower rate than traditional IRA withdrawals.
What Are The Disadvantages of 457?
The disadvantages of 457 are that it does not grow tax-deferred like a Roth IRA. This means that you will have to pay taxes on the money when you eventually withdraw it in retirement. Additionally, the contribution limits for a 457 are much lower than a Roth IRA. For 2022, the contribution limit for a 457 is $19,000.
Another disadvantage of 457 is that you may not be able to access the money as early as you could with a Roth IRA. With a Roth IRA, you can start taking withdrawals at age 59 ½. However, with a 457, the earliest you can start taking withdrawals is usually when you reach retirement age, which is typically 65.
What Are The Disadvantages of a Roth IRA?
There are a few disadvantages of a Roth IRA that you should be aware of before deciding whether or not it’s the right investment for you.
One downside is that you can only contribute a limited amount each year ($6000 in 2019). This may not be enough to fully fund your retirement if you have a large nest egg.
Another potential drawback is that you may have to pay taxes on your withdrawals in retirement. This is because the money you contribute to a Roth IRA has already been taxed.
Finally, if you need to take a withdrawal from your Roth IRA before age 59 ½, you may be subject to a penalty.
So, Which One Should You Use?
It depends on your specific circumstances, but here are a couple of general scenarios.
If you're in a high tax bracket and expect to be in a lower tax bracket during retirement, then a Roth IRA may be the better choice. On the other hand, if you're in a low tax bracket now and expect to be in a higher tax bracket during retirement, then a 457 plan may be the better option.
Of course, there are other factors to consider as well, such as whether your employer offers matching contributions (which is more common with 457 plans) and whether you think you'll need the money before retirement (you can withdraw funds from a Roth IRA without penalty if you're over 59.
Ultimately, it's important to sit down with a financial advisor and figure out what makes the most sense for your unique situation.
What Are Some Alternatives to Using a 457 or a Roth IRA?
There are a few alternatives to using a 457 or Roth IRA that you may want to consider. One is to use a 401(k) plan. With a 401(k) plan, you can contribute up to $18,000 per year (or $24,000 if you're over 50 years old).
Another option is to use a traditional IRA. With a traditional IRA, you can contribute up to $5500 per year (or $6500 if you're over 50 years old).
Lastly, you could also invest in a taxable brokerage account. While there are some drawbacks to investing in a taxable brokerage account, it may be the best option for you depending on your circumstances.
What Are Some Tips For Using a 457?
Now that we know what a 457 is and how it works, let's take a look at some tips for using one.
Make sure you're eligible
As we mentioned earlier, not everyone is eligible to open a 457 account. Before you do anything else, make sure you check the eligibility requirements and make sure you meet them.
Start saving early
The sooner you start saving for retirement, the better off you'll be. If you're just starting to think about retirement, a 457 can be a great way to get started.
Consider your other options
A 457 isn't the only retirement savings option out there. If you have a 401(k) through your employer, you may want to consider that as well. There are also traditional IRAs and Roth IRAs.
Maximize your contributions
You can contribute up to $18,500 per year to a 457 (or $24,500 if you're 50 or older). If you can afford it, maxing out your contributions is a great way to boost your retirement savings.
Once you have money in your 457, it's important to invest it wisely. Talk to a financial advisor about the best way to invest for your retirement goals.
Watch out for fees
Some 457 plans have high fees, so it's important to compare options and find one that's right for you.
What Are Some Tips For Using a Roth IRA?
Here are a few tips for anyone looking to make the most of their Roth IRA:
Start saving early
The sooner you start saving for retirement, the better off you’ll be. Compound interest has a way of really adding up over time, so the earlier you start saving, the more money you’ll have when you retire.
Save as much as you can
In addition to starting early, another key to success with a Roth IRA is to save as much money as you can each year. The IRS allows you to contribute up to $6000 per year (or $ 7000 if you’re 50 or older), so take advantage of that and save as much as you can.
The money in your Roth IRA can be invested in a variety of different ways. Some people choose to invest in stocks, while others opt for mutual funds or even bonds. There’s no right or wrong answer here, but it’s important to do some research and find an investment strategy that suits your risk tolerance and financial goals.
Keep an eye on fees
One of the biggest pitfalls of investing is paying too much in fees. Be sure to shop around for a good investment broker who will help you find the best investments without charging exorbitant fees.
Withdraw money wisely
When it comes time to start taking withdrawals from your Roth IRA, be sure to do so in a way that minimizes your tax liability. Generally speaking, it’s best to start withdrawing money after you turn 59 ½ and leave the account alone until you reach 70 ½.