(b)lines Ask the Experts – Can Unused Vacation/Sick Time Be Deferred to 457 Plans?

“I realize that she may defer such compensation into our 403(b) plan subject to the 415 limit rules regarding unused/sick vacation pay (and the plan terms allow it). However, she will not be able to defer the full amount of sick/vacation pay into the 403(b) plan without exceeding the 402(g) limit. We have a 457(b) plan for which she is eligible as well; could she defer the remainder into that plan, even though the payout will be made following termination of employment?” 

David Levine and David Powell, with Groom Law Group, and Michael A. Webb, vice president, Retirement Plan Services, Cammack Retirement Group, answer: 

Good question! Due to the nature of 457(b) plans (they are deferred compensation plans rather than retirement plans), one would expect that post-retirement deferrals would not be possible, However, the very same rules regarding deferrals of unused sick/vacation pay that apply to 403(b)/401(k) plans apply to 457(b) plans as well, as the 457 regulations utilize the compensation definition under 415.

Thus, any payout of unused sick or vacation time can be deferred to the 457(b) plan (up to the elective deferral limit for that plan, which is $18,000 in 2017, $24,000 in governmental plans for participants age 50 or older as of 12/31/2017), provided that a) the employee would have been able to utilize the sick/vacation leave if employment had continued and b) it is paid to the employee no later than the later of 2 ½ months following employment termination and the end of the limitation year (typically calendar year) in which the termination of employment occurs. Thus, in your particular case, the employee in question should be able to defer compensation for unused sick/vacation time into your 457(b) plan.

Of course, the plan terms must allow it, and it is usually good to coordinate this with the plan administrator to make sure the proper election is timely made. Also, just to add one caveat, keep in mind that the proposed 457(f) regulations that the Treasury issued in June include a facts and circumstances definition of what constitutes bona fide sick leave and vacation pay (as opposed to disguised deferred compensation). It is probably a good idea for employers that have very generous sick leave and vacation pay plans to review their plans in light of those proposed regulations to make sure that they truly are sick leave and vacation.

NOTE: This feature is to provide general information only, does not constitute legal advice, and cannot be used or substituted for legal or tax advice.