A 457 plan and a Roth individual retirement account are retirement savings accounts that provide various tax advantages. While the Internal Revenue Service legally permits the transfer 457 plans to Roth IRA, the restrictions are extensive. You'll also have to pay taxes on any such conversion.
Read More: IRS Rules for a 457 Rollover to a Roth IRA
Characteristics of 457 and Roth
A 457 plan is a special type of tax-advantaged retirement plan that can only be set up by certain tax-exempt organizations, such as state and local governments. Much like a 401(k) plan that is commonly offered by corporations, a 457 plan allows employees to make tax-deferred contributions to their choice of preselected investments. Contributions and earnings grow tax deferred until they are withdrawn.
A Roth IRA is a personal investment account that does not allow for the tax deduction of contributions. Investment options are nearly unlimited within a Roth IRA rather than being restricted to an employer's choices. Additionally, money can be taken out of a Roth IRA without being taxed.
How Rollovers Work
Participants cannot access money in their 457 plans until a "triggering" event. Essentially, you can't get money out of your 457 unless you change or lose your job, you reach age 72 or you have a demonstrable financial hardship. Until one of these events occurs, you cannot roll your 457 over to a Roth IRA, according to IRS Code Section 457(d)(1).
Assuming you have permission to access your funds, you can contact your plan administrator and indicate that you want to roll your money over to a Roth IRA. Your plan administrator can take care of the transfer electronically if you provide basic information about the transfer, such as the account number of the receiving Roth IRA, your Social Security number and the name and address of the financial institution holding your Roth IRA. You can also generally choose if you want the entire account transferred at once or if you want payments to roll over on an installment basis.
Taxes Involved With Rollover
Since money in a 457 plan has never been taxed and a Roth IRA only accepts after-tax contributions, you'll owe ordinary income tax on any amounts you transfer from your 457 to your Roth IRA. If you can't afford to pay the tax out of your own pocket, you may consider transferring the money in installments to avoid dipping into your retirement funds.
Advantages and Disadvantages
The main benefit of converting to a Roth IRA is that your future distributions will be tax free. However, unless you anticipate that your tax bracket in the future will not be lower than it is currently, it may not make sense to convert, because you'll be paying tax on your conversion now at a higher rate rather than in the future at a lower rate.
While a Roth IRA gives you more freedom in terms of investment choices, you will lose access to the fund options in your current 457 plan. If the performance of your 457 is sub-par, of course, then converting can make more sense.
Conversion makes more sense if you have a longer time horizon to retirement, since that will give your assets a longer time to grow in the tax-free wrapper of your Roth IRA. Since Roth IRAs have no mandatory distribution requirements, unlike 457 plans that require distributions after age 72, you could theoretically keep your money growing in a Roth for the rest of your life.
John Csiszar earned a Certified Financial Planner designation and served for 18 years as an investment counselor before becoming a writing and editing contractor for various private clients. In addition to writing thousands of articles for various online publications, he has published five educational books for young adults.