Sign Up

Why sign in to the Community?

  • Submit a question
  • Check your notifications
or and start working on your taxes
cancel
Showing results for 
Search instead for 
Did you mean: 
jerryb1
Level 2

Is a 457 retirement plan deferred comp withdrawal considered earned income? I was considering taking some from my 457 plan and placing it in a ROTH IRA if allowed.

 
2 Best answer

Accepted Solutions
JosephF8
Expert Alumni

Is a 457 retirement plan deferred comp withdrawal considered earned income? I was considering taking some from my 457 plan and placing it in a ROTH IRA if allowed.

Unfortunately, no this is not earned income.

 

What is earned income?

It helps to think of earned income as money you work for, as opposed to passive income like interest, dividends, or rental income if you're not in the business of renting out properties.

The IRS defines earned income as:

  • Taxable income you earned as an employee, such as wages, salaries, commissions, and tips
  • Profits from operating your business or farm
  • Long-term disability pay, if received before the minimum retirement age
  • Union strike benefits

The IRS also gives you the option of treating nontaxable combat pay (code Q in box 12 of your W-2) as earned income for the Earned Income Credit (EIC).

Worker's comp, unemployment, and pensions don't count as earned income.

**Say "Thanks" by clicking the thumb icon in a post
**Mark the post that answers your question by clicking on "Mark as Best Answer"

View solution in original post

jerryb1
Level 2

Is a 457 retirement plan deferred comp withdrawal considered earned income? I was considering taking some from my 457 plan and placing it in a ROTH IRA if allowed.

To all:  I did have to declare as income as it is deferred income.  I received a 1099-R and the boxes had all the information TurboTax needed to know how I needed to be taxed.  Most 457 plans, if not all, are considered taxable once you draw the money out.   I only state "if not all" since I am not completely versed in all the varieties of 457 plans but if you need to pay  tax it will show on the 1099-R. 

View solution in original post

16 Replies
ColeenD3
Expert Alumni

Is a 457 retirement plan deferred comp withdrawal considered earned income? I was considering taking some from my 457 plan and placing it in a ROTH IRA if allowed.

Yes, it is since it is reported in Box 1 Form W-2. See additional information in this link. 457

jerryb1
Level 2

Is a 457 retirement plan deferred comp withdrawal considered earned income? I was considering taking some from my 457 plan and placing it in a ROTH IRA if allowed.

Your answer was related to 457 contributions, which are not taxed...hence deferred in the name.  Deferred Comp contributions do not show up on a W2 as earnings.  My question was related to 457 withdrawals which generate a 1099-R for tax season.  Since the earnings are taxed during the withdrawal one could assume this is earned income...but assumptions are not necessarily correct.  My question is still in search of an answer. 

JosephF8
Expert Alumni

Is a 457 retirement plan deferred comp withdrawal considered earned income? I was considering taking some from my 457 plan and placing it in a ROTH IRA if allowed.

Unfortunately, no this is not earned income.

 

What is earned income?

It helps to think of earned income as money you work for, as opposed to passive income like interest, dividends, or rental income if you're not in the business of renting out properties.

The IRS defines earned income as:

  • Taxable income you earned as an employee, such as wages, salaries, commissions, and tips
  • Profits from operating your business or farm
  • Long-term disability pay, if received before the minimum retirement age
  • Union strike benefits

The IRS also gives you the option of treating nontaxable combat pay (code Q in box 12 of your W-2) as earned income for the Earned Income Credit (EIC).

Worker's comp, unemployment, and pensions don't count as earned income.

**Say "Thanks" by clicking the thumb icon in a post
**Mark the post that answers your question by clicking on "Mark as Best Answer"
dmertz
Level 15

Is a 457 retirement plan deferred comp withdrawal considered earned income? I was considering taking some from my 457 plan and placing it in a ROTH IRA if allowed.

What you really want to be asking if you can roll money over from a 457(b) to a Roth IRA.  The answer to that is Yes, you can roll over any amount you want as often as you want, 457(b) plan permitting, but these rollovers will generally be taxable unless the rollover is from a designated Roth account in the 457(b).  The long-term benefit of paying the taxes on the rollover will be that growth in the Roth IRA will be tax-free compared to taxable growth in the traditional 457(b) account if the funds remain there.

jerryb1
Level 2

Is a 457 retirement plan deferred comp withdrawal considered earned income? I was considering taking some from my 457 plan and placing it in a ROTH IRA if allowed.

The confusing part to me was it was earned income but not taxed until after my retirement when withdrawals were allowed.  I do think you are correct in your response though and wanted to say thanks

dmertz
Level 15

Is a 457 retirement plan deferred comp withdrawal considered earned income? I was considering taking some from my 457 plan and placing it in a ROTH IRA if allowed.

It was earned income for the year of the deferral.  It does not become earned income a second time when distributed from the plan.

bpjohnson51
Level 1

Is a 457 retirement plan deferred comp withdrawal considered earned income? I was considering taking some from my 457 plan and placing it in a ROTH IRA if allowed.

This is a categorically wrong answer.  It is deferred income; at the time it was deferred, you didn't get the money and it completely bypassed your earnings statement.  You didn't pay taxes on it.  The money remained an asset of the employer. ("substantial risk of forfeiture")  So it IS earned, presumably many years later, when you get distributions from the 457.  It will be reported as taxable wages.

Opus 17
Level 15

Is a 457 retirement plan deferred comp withdrawal considered earned income? I was considering taking some from my 457 plan and placing it in a ROTH IRA if allowed.


@bpjohnson51 wrote:

This is a categorically wrong answer.  It is deferred income; at the time it was deferred, you didn't get the money and it completely bypassed your earnings statement.  You didn't pay taxes on it.  The money remained an asset of the employer. ("substantial risk of forfeiture")  So it IS earned, presumably many years later, when you get distributions from the 457.  It will be reported as taxable wages.


See page 9 here,

https://www.irs.gov/pub/irs-drop/n-00-38.pdf

 

As long as the employee is immediately vested in their deferred compensation plan, the deferred wages are subject to social security and medicare withholding at the time the wages were paid into the deferred compensation plan.

 

That means that withdrawals from a deferred compensation plan are not subject to social security and medicare tax at the time of withdrawal, which in turn means they don't count as "earned income" or "compensation" earned from working.

 

And that means that in the end, a distribution from a 457 plan does not count as compensation that would allow the taxpayer to make a new contribution to a Roth IRA.  457 assets can be rolled over to a Roth IRA, but a 457 distribution does not count as compensation to allow new Roth IRA contributions.  And that was the original question. 

*Answers are correct to the best of my ability at the time of posting but do not constitute legal or tax advice.*
bpjohnson51
Level 1

Is a 457 retirement plan deferred comp withdrawal considered earned income? I was considering taking some from my 457 plan and placing it in a ROTH IRA if allowed.

Really appreciate the feedback . . . some further thoughts:

 

“As long as the employee is immediately vested in their deferred compensation plan, the deferred wages are subject to social security and medicare withholding at the time the wages were paid into the deferred compensation plan.”  

Yes, but as cited section B details, there are numerous timings of 457 vestings, each with its respective timing of imposition of social security and medicare taxes.  One particular timing is that the risk of substantial forfeiture does not end until the moment(s) of distribution.  Under that scenario and your subsequent argument, wages could be earned ONLY at the moment of distribution, likely in the event of an RMD.  I conclude that “As long as the employee is immediately vested . . .” is just one of several cases and does not support a broad determination of when earned income occurs.  This section B simply details the timing of SS/M taxation; it does not address earned income.  And of course, this matter is central to the question of whether a 457-distribution-based Roth contribution can legally occur.

 

“That means that withdrawals from a deferred compensation plan are not subject to social security and medicare tax at the time of withdrawal, which in turn means they don't count as "earned income" or "compensation" earned from working.”   

Certainly, if social security and medicare taxes are imposed at the time of deferral, they won’t be imposed again.   But as reasoned above, social security and medicare taxes might not have been imposed at deferral; in fact, they might be imposed at distribution.  Based on the converse of your argument above, the distribution in that situation would have to be earned income.  

 

But more importantly, I question the assertion “which in turn means that they don’t count as “earned income . . . from working”. To my reading of the cited section, and other reading, I find nothing that defines earned income as existing at the moment of and solely because of the imposition of social security and medicare taxes.  “Which in turn” sounds like conjecture, not policy or regulation.  But I remain most open to a written IRS definition that irrefutably backs this up, in which case my argument weakens.  

 

Further, note the language on page 4, IV.A “stating Distributions to a participant or former participant from a ' 457(b) plan are wages under § 3401(a) that are subject to income tax withholding in accordance with the income tax withholding requirements of ' 3402(a)”.  That’s a pretty definitive statement speaking to the key issue of earned income.

 

 “And that means that in the end, a distribution from a 457 plan does not count as compensation that would allow the taxpayer to make a new contribution to a Roth IRA.  457 assets can be rolled over to a Roth IRA, but a 457 distribution does not count as compensation to allow new Roth IRA contributions.  And that was the original question.”

Yes, one would have to go to that conclusion, but if you’ve followed me, a significant flaw lies in the “which in turn means . . . “ assumption. Therefore, I disagree with this conclusion.  

 

Let me turn from these principles to my own recent experience. In the current year I received a 457 RMD (single payment) and its related tax documentation.  The tax document I was issued is not a 1099, which one would expect for reporting of unearned income. (Interesting to note that if a distribution goes to a beneficiary, s/he must receive a 1099).  I received a Form W-2 “Wage and Tax Statement“, as required in section IV.C of the cited note.   Box 1 of the Form W-2, “Wages, tips, and other compensation”,  contains the full amount of my RMD.  I will assert (not cite) that a W-2 is the government’s definitive instrument of reporting earned income, hence the clear requirements contained in the note and the distinction noted above regarding an earner’s documentation and a beneficiary’s documentation.

 

With this tax document, prepared by a world-class trustee, in hand, I conclude that I have earned income (“wages”!) in 2021, for compensable work that I actually performed well over a decade ago.  This makes abundant sense to me given the regulatory understandings I entered the deferred compensation program with.  In short, I received exactly what I expected, taxable earned income.  The only SS/M tax implication is that the IRS is diligent to withhold SS/M the moment the risk of substantial forfeiture is gone.  But I re-assert that that trigger and imposition of SS/M are immaterial to the question of earned income.

 

With reported earned income now in hand, I’m not seeing why I can’t contribute to my Roth, subject to its usual rules and limitations.  What have I missed?  Be assured that I will not receive any comments as tax advice.  

 

Love the “conversation”!

jerryb1
Level 2

Is a 457 retirement plan deferred comp withdrawal considered earned income? I was considering taking some from my 457 plan and placing it in a ROTH IRA if allowed.

To all:  I did have to declare as income as it is deferred income.  I received a 1099-R and the boxes had all the information TurboTax needed to know how I needed to be taxed.  Most 457 plans, if not all, are considered taxable once you draw the money out.   I only state "if not all" since I am not completely versed in all the varieties of 457 plans but if you need to pay  tax it will show on the 1099-R. 

Opus 17
Level 15

Is a 457 retirement plan deferred comp withdrawal considered earned income? I was considering taking some from my 457 plan and placing it in a ROTH IRA if allowed.

Of course it's taxable income.  The question was, does it count as "compensation" that would allow a person to make a contribution to a Roth IRA.

 

The answer is in black and white in IRS Publication 590A, table 1-1.  Deferred compensation is not "compensation" for purposes of making IRA contributions.

https://www.irs.gov/pub/irs-pdf/p590a.pdf

*Answers are correct to the best of my ability at the time of posting but do not constitute legal or tax advice.*
klingermantt
Level 2

Is a 457 retirement plan deferred comp withdrawal considered earned income? I was considering taking some from my 457 plan and placing it in a ROTH IRA if allowed.

Why is TurboTax 22021 allowing my deferred income from a 457b from box 1 on W2 to be reported as earned income for purpose on making an IRA contribution when box 11 on same W2 reports entire amount as from a nonqualified plan?
 
dmertz
Level 15

Is a 457 retirement plan deferred comp withdrawal considered earned income? I was considering taking some from my 457 plan and placing it in a ROTH IRA if allowed.

@klingermantt , make sure to edit the W-2 and in the questions that follow indicate that this was money that you took out of the plan.  Doing so will prevent TurboTax from treating this as income that would support an IRA contribution.

klingermantt
Level 2

Is a 457 retirement plan deferred comp withdrawal considered earned income? I was considering taking some from my 457 plan and placing it in a ROTH IRA if allowed.

Shouldn't TurboTax automatically correct the earned income question with the info entered in boxes 1 and 2 on the W2 form?

Dynamic AdsDynamic Ads
Privacy Settings
v