Best Distribution Option for a 457 Plan?

[Guest rcenturion]

I recently left state employment to take a job with the federal government. I have a balance of about $15,000 in my section 457 deferred compensation plan with the state. I have been informed that I must now elect one of the following two distribution options: (a) immediate lump-sum distribution, less 28% withholding tax, or (B) I must state the year I wish to begin receiving annuity payments (the year selected can be changed only once in the future and the change must be to a later date). The problem I have with the annuity option is that I am only 32 years old and am unsure when in the future I would want to begin receiving annuity payments and I don't like the inflexibility about changing the date to begin annuity payments. For example, if I now choose to begin receiving the payments at age 65, but I become ill or disabled at age 60, I wouldn't be able to change the annuity payments to an earlier date. For that reason, I am leaning toward selecting a lump sum distribution, but would be interested in learning any strategies to reduce taxes on the distribution. I know that a 457 cannot be rolled over into any other type of retirement plan tax free. I would also like to put some of the distribution into a Roth IRA and would like to find out if there are any exceptions to the $2,000 yearly limit in this type of situation.

[Guest Harvey Carruth]

Presumably you now participate in the FERS retirement system, including the TSP. If you are not already contributing 10% of salary to the TSP, one approach would be to take the 457 plan distribution in a lump sum and contribute 10% of your salary to the TSP as a salary reduction to (partially) compensate for the extra income. Depending on your salary, taking the distribution next year and beginning your 10% contribution rate in January would provide the maximum possible TSP contribution in a single year, as much as $10,500 depending on salary level. An added advantage to this approach is that your employer, who already contributes 1% of salary, will match an additional 4% as long as you contribute at least 5% of your salary. A concise description of the TSP may be found at

http://www.tsp.gov/features/tsp2f.html

Hope this helps.

[Guest Brent Rowell]

I suggest you pick an age like 60.

The logic is as follows:

Most states allow hardship withdrawls or early start dates for hardship

My crystal ball (known to be flawed) says the odds are extremly good that state 457 plans will be eligable for IRA rollover this decade.

It would be really painful to loose a tax shelter at such a young age.

[Guest rcenturion]

Brent:

Thanks for the response. I agree that 457 plans will eventually be eligible for IRA rollovers. There is currently a billing pending in Congress which would allow this. But, if I choose the annuity payment option now rather than a lump-sum distribution, do you think I would be precluded from doing a rollover in the future if the new law is passed? My deadline for electing a lump sum or annuity is 61 days after I left state employment, which gives me very little time to decide.

[Guest Brent Rowell]

The following is a wild guess. I am not an attorney. Hopefully Carol will venture a much more informed guess.

Your current plan wants a payout election now fearing the doctrine of constructive receipt. This is an issue after you are no longer an employee. I would think that they would be happy to allow transfers to IRA for terminated employees since it would reduce their work load. Current IRA laws take care of constructive receipt. I would think that funds transferred to IRA would be subject to IRA rules and NOT the rules from the old plan. I would guess that IRS would be happier enforcing a single set of rules (IRA) and therefore would not anticipate problems from them.

I doubt the plan administrator will give you a direct answer concerning pending legislation but it probably makes sence to ask.

Second warning:

I tend to read things the way I want them to be and not necessarily the way they are written

[Carol V. Calhoun]

Since Brent specifically asked for my comments, I figure that's my clue to join in.

The problem is that an election of a 457 distribution option is irrevocable after you cease to be employed. So if you elect an annuity option now, you are stuck with it for the future. And annuity payments (from any kind of plan) cannot be rolled over. So if you elect an annuity now, you will not be able to roll it over later even if the law is changed to allow rollovers from 457 plans.

[Guest Brent Rowell]

That is not quite the hypotetical fact situation:

Participant has made deferred annuitiztion election and annuity payments have not yet commenced e.g. 5 years from now.

In the case of another individual where annuitization has commenced is there anything other than IRS reg. (Which certainly did not contemplate IRA eligibility) that precludes transfer to IRA of commuted annuity value?

The argument would go something like "Individual desires the reduced risk of IRA and does not wish to have funds subject to claims of employer's creditors"

[Guest Brent Rowell]

Sorry posted too fast.

Second part of argument:

Is there anything that stops an individual from transferring commuted value of annuity stream to IRA from 403(B) or 401(k)?

I don't know why or if this has been done, but I do not know of anything that precludes it.

[Carol V. Calhoun]

The statute states in the case of 457 plans (though not in the case of 401(k) plans) that taxation occurs when the amount is "made available." Thus, if a participant who had already begun receiving annuity payments were given the option to take the commuted value right away, s/he would be taxed on the commuted value, even if s/he decided to continue receiving annuity payments. It is this statutory language which would have to be changed before participants who have begun annuitization would be able to take the commuted value as a rollover.

For the one who did not begin annuity payments yet, the issue is whether the election period has passed. An amount is not considered "made available" if the participant is given a right to elect annuity forms while still employed, or for a brief period after termination of employment. But if the individual has already terminated employment, s/he cannot be given a new election without creating the problems discussed above.

[Guest Brent Rowell]

Thank you .... I learned a lot.

To whimper along with my losing argument....

My thought was that an administrator would be able to commute an annuity stream and transfer it to the employee's IRA. A "withdrawl" would not be allowed.

Similarly a transfer would be allowed prior to annuitization

Getting out of an irrevocable election would be a side effect just as getting out of sex neutral is a side effect.

Does the irrevocable election rule preclude a terminated employee, who made an election to take a deferred annuity payout, from later transferring the money to a new employer who has a 457 plan?

I'm trying to state the case for someone who went from not-for-profit to for-profit and then to not-for-profit or the like and therefore was forced to make an election.

Hopefully my last post on this thread