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Section 457 are primarily for the the governmental employers, however, they may also be used in the not for profit arena. Governmental employees were allowed for salary deferrals by Section 457 beginning in 1978, and the not for profit employers were covered in 1986. Eligible employers include all state and local employers, the District of Columbia, political subdivisions of a state, agencies or instrumentalities of a state, as well as employers who can qualify under Section 501(c)(1) to Section 501(c)(27).
Section 457 is divided into two types of plans, the "eligible" and the "in-eligible" plans. These plans are found in code sections 457(b) and 457(f).
Eligible Plans:
These plans meet the requirements of 457(b) and 457(e) and are maintained by an eligible employer. There are certain mandatory features of these plans. An eligible employer is a state, political subdivision of a state, or non-church, non-governmental tax-exempt organizations.
Mandatory Features:
1. The plan must provide that the compensation is deferred only after an agreement providing for such deferral has been entered into.
2. The plan document must specify a deferral ceiling not to exceed current limits. The contributions must not exceed 100% of compensation after the contribution is deducted. The contributions are limited to $17,000 in 2012.
3. The plan assets must remain assets of the employer except in the case of a 457(g) trust.
4. Plan must specify that the plan assets are for the exclusive use of the participant and beneficiaries for governmental employers.
5. Plan must specify a specific fixed time or event that triggers the individuals right to receive payments under the plan.
6. Payments must be only made to the participant upon the attainment of age 70 1/2, separation of service, or unforeseen emergencies. The plan may provide that no distribution will be made until after a participant separates from service.
7. Payments to a participant must commence no later than the April 1st of the year following the year in which the participant attains age 70 ½ or the April 1st following the calendar year in which the employee retires unless the employee is a 5% or more shareholder.
8. Benefit payments must meet the requirements of Code Section 401(a)(9).
9. Benefits must be made at least once each calendar year and must not substantially increase.
10. Benefits that commence prior to death must be paid out during a period not to exceed 15 years or the life expectancy of the surviving spouse if the spouse is the beneficiary.
11. Plans are no longer required to coordinate deferrals with 401k) 403(b) plans.
Permissive Features:
1. An exception to the rule that compensation to be deferred must be entered into before the first day of the month may be made for newly eligible participants.
2. Participant has the right to contribute and within limits to determine the amounts to be contributed
3. Participant may be permitted to direct investments
4. Within limits the participant may select own retirement age unless limited by state law. If not specified in the document it is assumed to be the normal retirement under the participants basic retirement plan. The minimum retirement date is the date that the participant may retire without the consent of the employer and receive an unreduced retirement under the basic retirement plan of the employer.
5. A plan approved domestic relations order (PADRO) may be provided to allow distributions to a former spouse.
6. A plan may provide for benefits to be made to participants in the event of an unforeseeable emergency. An unforeseeable emergency are such things as the loss of a participant's property as a result of a casualty, sudden and unexpected illness or accident of the participant or dependent, or any other extraordinary and unforeseeable circumstances arising as a result of events beyond the control of the participant. The amount of the withdrawal must be limited to the need.
7. A plan may provide for transfers to another eligible plan.
8. A governmental plan may provide for loans to participants.
9. A 457(g) plan trust may provide for suspension of loan payments during a period in which the individual is performing service in the uniformed services.
Audits and Inconsistent Administration:
The IRS has announced that 457(b) and 403(b) plans will be audited in the next 2 years. The IRS will be auditing for inconsistent administration of these programs. On a governmental 457 program the IRS will give notice to the plan and allow for self-correction. The plan sponsor will have 180 days to remedy any defect that is found in administration. If the defect is remedied the plan continues, otherwise it is declared ineligible and will be taxed under Section 457(f) and under Section 83.
If the plan is sponsored by a not for profit employer, the IRS will declare it a 457(f) plan and the benefits will be taxed to the participants under Section 457(f) and Section 83. There is not any program for correcting defects in a not for profit Section 457 plan.
Ineligible Plans:
Plans that do not meet the requirements of Section 457(b) and 457(e) of the code are covered under Section 457(f). These plans can be sponsored by either governmental or not for profit employers.
Mandatory Provisions:
1. Benefits must be provided for a key employee or highly compensated employees in excess of the amounts available under Section 457(b).
2. Benefits are taxable to the participant in the year in which they are no longer subject to a substantial risk of forfeiture.
3. Governmental plans may be funded.
4. Not for profit plans may violate ERISA if they are funded. Plans are considered "unfunded" if they are subject to the creditors of the employer.
Governmental Employers:
1. Trust Requirements.
A. All amounts that are deferred are held in trust for the exclusive use of participants and beneficiaries.
B. Assets in the trust are not subject to the claims of the employer's creditors.
C. The trust requirement was placed into effect by SBJPA in August of 1996.
D. Insurance contracts are treated as a trust with the contract holder as trustee.
E. Custodial contracts must be held by a bank and are treated as a trust with the participant as the trustee.
2. Plan Provisions.
A. The plan may restrict participation by age and/or service and classification.
B. The plan may provide for loans. The loans must be limited to 1/2 of the vested account balance, and they must be be repaid within 5 years. The payments must be made on a substantially equal basis and at least on a quarterly basis. The borrow must have a good fait intention to repay.
3. Employer Contributions.
A. The employer contributions may be limited by state law.
B. The employer contributions may be subject to a vesting schedule.
C. Employer contributions are subject to FICA when vested, and this can create operational problems.
4. Transfers to or from other plans may be made from IRA's 403(b), 401(a), or other governmental 457(b) plans. The plan man not provide for transfer to or from 457(f), or 457(b) plans. Transfers must, however, be accounted for separately.
5. Catch up provisions are available to Section 457 plans. The catch up contributions are available to participants who are 50 or older in the plan year. The catch up contribution is $5,500 in 2012. The participant may also defer two times the deferral limitation in each of the last 3 years prior to normal retirement date. (i.e. for 2012 the limitation is $34,000 or 2 times $17,000) During these three years the age 50 catch up contribution may not be used.
Not For Profit Employers.
Asset Requirements:
1. All assets of the plan are subject to the claims of creditors until paid to the participant or beneficiary.
2. Assets in the trust are only subject to claims of employer’s creditors.
3. The plan may use a Rabbi Trust to segregate assets for participants.
Plan Provisions:
1. The plan must restrict participation by a select group of employees.
2. The plan must be "unfunded". The assets must be subject to a substantial risk of forfeiture.(i.e. non vested until, death, termination, or retirement).
3. Employer contributions can be made and subject to a vesting schedule. If a vesting schedule is used, the employer contributions are subject to FICA when the contributions are vested. The use of a vesting schedule can cause operational problems.
Transfers from other Plans.
Transfers to or from other plans may be made from IRA's 403(b), 401(a), or other governmental 457(b) plans. The plan man not provide for transfer to or from 457(f), or 457(b) plans. Transfers must, however, be accounted for separately.
Catch up Provisions
5. Catch up provisions are available to Section 457 plans. The catch up contributions are available to participants who are 50 or older in the plan year. The catch up contribution is $5,500 in 2012. The participant may also defer two times the deferral limitation in each of the last 3 years prior to normal retirement date. (i.e. for 2012 the limitation is $34,000 or 2 times $17,000) During these three years the age 50 catch up contribution may not be used.