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September 15, 2020
Two Plans—Two Limits?
ERISA consultants at the Retirement Learning Center (RLC) Resource Desk regularly receive calls from financial advisors on a broad array of technical topics related to IRAs, qualified retirement plans and other types of retirement savings and income plans, including nonqualified plans, stock options, and Social Security and Medicare. We bring Case of the Week to you to highlight the most relevant topics affecting your business.
A recent call with an advisor in Massachusetts is representative of a common inquiry related to multiple retirement plans. The advisor asked: “My client is a fireman who participates in the department’s 457(b) plan. He also runs his own electrical business. Can he set up a 401(k) plan and contribute to both plans?”
Highlights of Discussion
This is an important tax question that your client should discuss with his tax professional to make sure all the facts and circumstances of his financial situation are considered. Generally speaking, however, the IRS rules would allow your client to contribute to both his 457(b) plan and 401(k) plan up to the limits in both.
For 2020, 457(b) contributions (consisting of employee salary deferrals and/or employer contributions combined) cannot exceed $19,500, plus catch-up contribution amounts if eligible [Treasury Regulation Section (Treas. Reg. §1.457-5)] and 457(b) contribution limit]. The same maximum deferral limit applies for 401(k) plans in 2020. The catch-up contribution rules differ slightly between the two plan types.
| 401(k) | 457(b) |
| Age 50 or Over OptionEmployees age 50 or over can make catch-up contributions of $6,500 beyond the basic 402(g) limit of $19,500 for 2020. | Age 50 or Over OptionEmployees age 50 or over can make catch-up contributions of $6,500 beyond the basic 457 deferral limit of $19,500 for 2020.Special “Last 3-Year” OptionIn the three years before reaching the plan’s normal retirement age employees can contribute either:•Twice the annual 457(b) limit (in 2020, $19,500 x 2 = $39,000), Or •The annual 457(b) limit, plus amounts allowed in prior years not contributed.Note: If a governmental 457(b) allows both the age-50 catch-up and the 3-year catch-up, one or the other—but not both—can be used. |
Since 2002, contributions to 457(b) plans no longer reduce the amount of deferrals to other salary deferral plans, such as 401(k) plans. A participant’s 457(b) contributions need only be combined with contributions to other 457(b) plans when applying the annual contribution limit. Therefore, contributions to a 457(b) plan are not aggregated with deferrals an individual makes to other types of deferral plans. Consequently, an individual who participates in both a 457(b) plan and one or more other deferral-type plans, such as a 403(b), 401(k), salary reduction simplified employee pension plan, or savings incentive match plan for employees has two separate annual deferral limits.
Another consideration when an individual participates in more than one plan is the annual additions limit under IRC Sec. 415(c),1 which typically limits plan contributions (employer plus employee contributions for the person) for a limitation year 2 made on behalf of an individual to all plans maintained by the same employer. It this situation, the annual additions limit is of no concern for two reasons: 1) there are two separate, unrelated employers; and 2) contributions to 457(b) plans are not included in a person’s annual additions [see 1.415(c)-1(a)(2)].
Conclusion
IRS rules would allow a person who participates in a 457(b) plan and a 401(k) plan to contribute the maximum amount in both plans. However, it is important to work with a financial and/or tax professional to help determine the optimal amount based on the participant’s unique situation.