What are the benefits of a 457(b) plan compared to low-cost index funds?
I work for an institution that has two retirement vehicles: a 401(a) plan and a 457(b) plan. The institution puts 6% into my 401(a) account, and an additional 3.5% into my 401a account, as long as I contribute at least 3.5% into the 457(b) account. For the past two years, I have contributed 32% to my 457(b) account (16% pretax and 16% post-tax). Is there a better strategy that I can use for 2018? Should I put the required 3.5% into my 457(b) in order to get my institution’s additional contribution to my 401(a)? I would put the remaining 28.5% into a low-cost index fund. I also have a Roth IRA that I contribute $6,500 to annually.
Great question. Despite the great trend in lower, more transparent fees in the 401(k) space, the 403(b) and 457 markets have not kept pace. Many of these plans are expensive, so I would start by asking your administrator for a copy of the annual plan review. This should detail the costs you are paying inside the 457 plan. Often that will include a fee for the record keeper, a fee for an advisor (who you probably never see), and these fees are unfortunately rarely taken to market for new prices. This may or may not be the case for you, but it's worth looking into.
Since you're already fully funding your Roth IRA, however, the only other place to put money is in index funds in a taxable account. If the fees in your 457 plan are reasonable, then I would continue down the route you're already on. You are getting a tax benefit for your pre-tax amount, and you're building up your tax free amount in the post-tax (Roth) bucket. The compounding on those tax benefits will likely be better than opening a taxable account. You can contribute a combined $18,500 (if you're under age 50, $24,500 if you're over) in your pre-tax and Roth buckets of your 457, and in all honesty, the 457 fund lineup should already include index funds. If they don't then you should feel comfortable asking someone about the fund lineup or have an advisor reach out on your behalf.
Good luck to you.
Thanks for your question. The answer is YES to all of the above. Contribute, Contribute, Contribute and every dollar of all accounts should be invested into a globally allocated portfolio of low-cost index funds.
I am super stoked of Roth contributions so I always encourage you try to fund the heck out of them. In your situation if your company plan has a Roth component your can fund both your plan and a Roth IRA at the same time (as long as you are within the income thresholds for a Roth IRA). So in your case, go ahead and fund up to the max to get the company match and then everything else goes into the Roths.
We can get deep into the weeds depending on your income and tax benefits of traditional 401a/457 but I always prefer tax-free, especially after our new tax plan.
Remember, what's better than $1M? 1M tax-free dollars.
Hope this helps!
Richard E. Reyes, CFP, The Financial Quarterback TM