What is a set-off? A set-off clause is a financial agreement that effectively removes unnecessary back and forth payments between two groups. Consider the example of two banks that owe each other for various debits. They would ask, who owes the most money? Is any money owed to them? If so, subtract that amount, and the net difference is the final bill.
The set-off clause gets a little more complicated, however, when applied to banks, borrowers, and outstanding debts. In essence, the set-off clause allows banks to draw from deposit accounts when a debtor owes them money.
Keep reading to explore details of the set-off clause and how it’s used in the everyday world by financial institutions.
Key Points
• Set-off clauses allow financial institutions to reduce mutual debts by applying funds from deposit accounts.
• Banks can use set-off to cover unpaid debts without always notifying the borrower.
• Set-off actions do not impact credit scores and have a neutral effect on creditworthiness.
• Borrowers can protect against set-off by understanding and negotiating agreement terms or switching banks.
• Debt consolidation through a personal loan can offer lower interest rates and simplified payments, avoiding set-off risks.
Understanding the Set-Off Clause
The set-off clause is a financial agreement made between two parties that allows one group’s debt obligation to be offset by the other group’s debt obligations to them. If two groups both owe money to each another, the one with the largest debt pays the difference between the two debts.
All in all, its purpose is to remove unnecessary payments between two parties. However, the set-off clause is often invoked by banks and financial institutions when a debtor defaults on payments on a loan product or owes an outstanding balance.
Definition and Purpose
Set-off legal definition: A set-off occurs when there are mutual debt obligations between two parties, but one party’s debt is reduced by the amount the second party owes to them.
The original purpose of a set-off clause is to reduce the amount of unnecessary back and forth between two parties. But when it comes to financial institutions, there are many reasons for its existence. One purpose is to provide stability to banking institutions. Because loans are essentially secured through deposit accounts, banks can continue to operate without fear of liquidity issues.
A simpler purpose is that it makes collecting debts a lot easier and faster. Of course, there are many types of debt, which may determine how remittance is pursued.
How Set-Off Clauses Work
Set-off clauses may be invoked by financial institutions when a borrower has checking or savings accounts with the same lender they have a debt with. Should they overdraw or owe unpaid fees to the lender, the lender has the right, via the set-off clause, to pull money from the borrower’s deposit accounts to settle unpaid debts.
Depending on the agreement and local laws, the lender or bank may not even have to notify the borrower when the clause is invoked.
Where You’ll Encounter Set-Off Clauses
You’re likely to find a set-off clause with credit cards, loans, and even bank account agreements.
For banks, this language is often mentioned throughout the account agreement. Many banks exercise their right of set-off to deduct funds from an account holder’s deposit account when that account holder owes an outstanding amount because of fees, overdrafts, or unpaid monthly payments.
But remember: The right of set-off normally only goes into effect when the account holder uses the same institution for their checking and other banking needs.
Legal Basis for Set-Off Clauses
Common law rights apply to set-off clauses when two parties are reconciling debts between them. If party A owes $75 and party B owes $50, both debts can be finalized by party A paying party B $25.
This, in turn, leads into contractual agreements where one party is allowed to deduct money owed to them when those debts go unpaid. However, certain regulatory frameworks must be followed in order for the financial institution to remain compliant.
All financial institutions operating in the United States must adhere to regulatory laws. In general, if you have a complaint, you will want to contact the Consumer Financial Protection Bureau or your state banking regulator.
Implications for Borrowers and Account Holders
A set-off can have a big impact on your personal finances, especially if you’re unprepared for it. Because banks usually don’t have to notify account holders of set-offs, you may suddenly realize your account balances are lower than they should be. That can make you susceptible to overdrawing or not having enough funds to cover necessary expenses.
If you’re vulnerable to a bank invoking the set-off clause, you may want to take the appropriate steps to protect your finances.
Protecting Yourself from Set-Off Actions
To protect yourself from a bank or financial institution invoking the set-off clause, the first step is to understand it. If you’ve already signed an agreement with a set-off clause, you may want to reread through it. If it doesn’t make any sense to you, call the institution and ask to speak with an account specialist who can explain the clause and when it may be invoked.
If you haven’t signed any agreements yet, the terms may be negotiable. While set-off clauses are pretty standard, if your finances are strong, the bank may be willing to rewrite the terms to the contract so they are more favorable to you.
Another option may be to switch banks and close your bank account. As long as the new bank is not affiliated with the original lender, your money may be safe from the set-off clause. However, keep in mind that the lender may be able to take legal action against you. If they do, your assets may be put in jeopardy.
You may be wondering if closing a bank account impacts your credit score. As long as your account has a positive balance, closing it shouldn’t affect your credit score. If you have any automatic payments set up, just make sure you update those accounts so they stay current.
When invoking the set-off clause isn’t an option, banks may take other measures, such as sending your debt to a debt collector, restructuring your loan so you can make your payments more easily, or even taking legal action. To avoid any negative consequences, you may want to consider taking out a personal loan for debt consolidation.
How debt consolidation works is simple: Apply for a personal loan and use that loan to pay off your debts at (ideally) a lower interest rate. You’ll likely save money in interest, and you may even have a lower monthly payment, too.
You can take out personal loans for credit card debt, student loans, car loans, or even other personal loans with higher interest rates. You can pay off multiple forms of debt with a personal loan.
A set-off clause is legal language that allows a lender to draw from a debtor’s deposit accounts in the event they default on a loan. But typically, it’s only implemented when the debtor uses the same financial institution for their loan as they do their checking and banking needs. To protect yourself against a set-off, read over your loan or account agreement and reach out to your financial institution with any questions. You may also choose to move your bank account to a new bank.
If you’re struggling to make payments, consider taking out a personal loan to pay down your debts. You could potentially get out of debt sooner, save money in interest, and may even save money with a lower monthly payment.
Think twice before turning to high-interest credit cards. Consider a SoFi personal loan instead. SoFi offers competitive fixed rates and same-day funding. Checking your rate takes just a minute.
SoFi’s Personal Loan was named NerdWallet’s 2024 winner for Best Personal Loan overall.
FAQ
Can banks use set-off without notifying me?
The answer to this boils down to your loan agreement and local laws, but in most situations the bank does not have to notify the borrower when it invokes the set-off clause.
Does the set-off clause apply to joint accounts?
A set-off clause shouldn’t apply to joint accounts unless both people are on the loan and are both liable for payments.
Can I dispute a set-off action by my bank?
Yes, a set-off action can be disputed, but the bank may well be within its rights. To determine if the bank acted improperly, you’ll need to read through your loan agreement with the bank. If you’re positive the bank acted illegally, first contact the bank and begin a dialogue with them. If that doesn’t resolve the matter, you may need to file a complaint to the appropriate authorities and seek legal counsel.
How does the set-off clause affect my credit score?
A set-off clause being enacted should not impact your credit score. However, if you’ve been missing payments and are in default, then any late payments will have a negative impact on your credit score.
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Here’s what an employee savings plan offers: It is a tax-advantaged investment plan that an employer makes available to members of their staff. The employer may or may not contribute a company match of some level in addition to the money contributed by their employees. These accounts can typically be used at a later date by the employees, who can tap the funds for long-term goals such as retirement or for healthcare expenses.
One benefit of employee savings plans is that they can simplify the saving process. The employer typically takes automated deductions from a worker’s paycheck before income tax is assessed. In this way, these savings plans may increase your contributions to retirement savings contributions while also saving on taxes.
What Is an Employee Savings Plan?
Some employers offer an employee savings plan to help employees invest for retirement and other long-term financial goals, like a down payment on a house. Leveraging an employee savings plan is one of the first steps to building a simple savings plan you can stick to.
Each employee chooses how much they want to contribute to the plan each month. That amount is then deducted from the employee’s paycheck each month. If paychecks are distributed biweekly, the contribution will likely be split up between the two.
The automated process can help make it easier to save, and employees generally have the option to change their contribution amount based on their needs and goals.
Employee savings plans contributions are made on a pre-tax basis. That means the funds are transferred to your savings plan before taxes are taken from your paycheck. This allows account holders to save money while paying taxes on a smaller portion of your salary.
In some cases, your employer may offer a matching contribution to any funds you contribute to your employee savings plan. Usually, there is a match limit equivalent to a certain percentage of your salary.
For instance, imagine your employer matches your contributions up to 3% of your salary and you earn $75,000 a year. That amounts to $2,250.
As long as you contribute at least $2,250 to your plan, your employer will give you the same amount, for a total of $4,500 — plus anything over that amount you decide to contribute.
There are several types of employee savings plans you may have access to through your job.
Many organizations offer qualified defined contribution plans, which means it qualifies for pre-tax contributions and tax-deferred growth. Private companies offer these through 401(k) plans, while public or non-profit organizations generally offer 403(b) or 457(b) plans.
Another type of employee savings plan you may see is a health savings account (HSA). Some companies will offer this kind of account to their team.
If you have a high-deductible health plan (HDHP), this plan lets you save money tax-free to pay for qualified medical costs that aren’t covered by insurance.
A profit-sharing plan is less common, but also helps you save for retirement. Employees own shares of the company and receive distributions from the company either quarterly or annually. However, as an employee, you cannot add your own contribution to a profit-sharing plan.
A defined benefits plan, also known as a pension plan, is another type of employer-sponsored plan. In this type of plan, employees are offered a specific benefit, which may be based on factors like your years of service at the company.
These days, very few companies offer this type of benefit, instead opting to offer a 401(k) plan or other similar option.
What Are the Benefits of an Employee Savings Plan?
There are a number of advantages to using an employee savings plan. The first is that contributions are tax-free. In most cases, income taxes are paid at the time of withdrawal. That may reduce the amount of taxes you’ll have to pay on your overall salary.
So even though your take-home pay is smaller because of those automatic contributions, your taxable income is also less. Plus you have a growing investment account to help you prepare for retirement or other goals.
Another advantage of participating in an employee savings plan is that your employer could offer a free contribution match as part of their benefits package to retain team members. According to a Bureau of Labor Statistics report, 51% of employers who offer 401(k) plans provide some kind of company match.
Employer-sponsored retirement saving plans also come with larger annual contribution limits compared to individual retirement accounts (IRAs). The 401(k) contribution limit for individuals is $23,000 for 2024 ($23,500 for 2025). A traditional IRA, on the other hand, only allows you to contribute $7,000 for tax years 2024 and 2025.
If you’re age 50 or older, both types of plans do allow for an extra catch- up contribution. With a 401(k), you can add an extra $7,500 for 2024 and 2025 (in 2025, those aged 60 to 63 can contribute an extra $11,250). With an IRA, catch-up contributions are limited to $1,000 for both tax years.
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What to Look Out For
While there are a number of advantages that come with an employee savings plan, there are also some pitfalls to beware of. Consider these points:
• Some employers require you to work at the company long enough to become vested before you can access your matched funds. Being fully vested means that you’ve reached the minimum number of years to be able to make withdrawals from your employer match.
• If you leave the company before becoming vested, you do get all of the contributions (and growth) you’ve made in your plan. But if you leave before becoming vested, you may lose the matched funds from your employer.
In some cases, you may receive a percentage of that money based on how long you’ve been there. Either way, it’s important to find out these details from the human resources department at your company, especially if you’re thinking about a job change.
• Another downside to an employer savings plan is that although your contributions are tax-free, you do have to pay federal and state income taxes when you make withdrawals.
• Another factor to consider is your tax bracket. Some people may expect to be in a higher tax bracket during their prime working years, so the immediate tax deduction may be helpful. Others may end up being in a higher tax bracket after they’ve accumulated wealth over decades and reach retirement age.
• In addition to paying income taxes on your withdrawals, employee savings plans also typically come with a 10% early withdrawal penalty if you take out cash from, say, a 401(k) before reaching 59 ½ years old. There are some exceptions to this penalty, but be aware of it should you be considering making an early withdrawal.
• Also remember that your plan contributions are investments that are subject to risk. It’s not like a savings account through a financial institution that offers a yield based on your deposits. You will typically be responsible for crafting your portfolio and managing your investments. The options available to you may vary based on the specific plan offered by your employer.
• No matter how much you contribute, the value of your plan is impacted by the performance of your investment choices, regardless of how much money you contributed over the years. It is also helpful to review your goals regularly and gauge your risk based on your time horizons.
For instance, investors may opt to invest in riskier investment vehicles when they’re younger because the potential for gains may outweigh the risk. As they get older and approach retirement, they may begin to allocate less money to those higher-risk investments.
• Finally, be aware of any administrative fees that come with your plan. The average cost is 0.37% of invested assets per year for the largest plans and 1.42% for the smallest plans; fees will probably vary based on the plan.
Explore different options available within your plan to choose the one that makes sense in terms of both investments and fees.
Many employee savings plans designed to save for retirement allow you to borrow funds from your account if you choose to. The IRS has limitations, such as only being able to borrow the lesser of 50% or $50,000.
You’ll pay interest just as you would with any other loan, but that money gets paid back into your account. This may be one option to consider if you find yourself in need of cash, but there are several drawbacks to be aware of.
The loan terms only apply while you remain at the job providing the employee savings plan. If you leave your job with a loan balance, you must repay the full amount by the due date of your next federal tax return.
Another consideration is that if you don’t pay the loan back by its due date, it counts as a distribution and you will likely have to pay income taxes and penalty on the money.
You’ll also miss out on the growth those borrowed funds may have experienced, which could set back your retirement goals. When considering different types of savings accounts, it’s wise to acquaint yourself with a variety of possible scenarios.
The Takeaway
An employee savings plan can be an advantageous way to save towards retirement and other goals. It can be especially beneficial if your employer offers matching contributions, which can help boost your savings.
By starting early and automating the process, you can build an investment account with robust contributions throughout your career.
An employee savings plan may be just one part of a well-rounded financial portfolio, but there are other types of savings accounts that can be useful. For shorter-term goals, like an emergency fund, it may be worth looking into another type of account, like a checking or savings account.
SoFi Checking and Savings is an online bank account that allows users to save and spend in one place. You’ll earn a competitive annual percentage yield (APY) and pay no account fees, which can help your money grow faster.
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Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.
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SoFi Bank shall, in its sole discretion, assess each account holder’s Direct Deposit activity and Qualifying Deposits throughout each 30-Day Evaluation Period to determine the applicability of rates and may request additional documentation for verification of eligibility. The 30-Day Evaluation Period refers to the “Start Date” and “End Date” set forth on the APY Details page of your account, which comprises a period of 30 calendar days (the “30-Day Evaluation Period”). You can access the APY Details page at any time by logging into your SoFi account on the SoFi mobile app or SoFi website and selecting either (i) Banking > Savings > Current APY or (ii) Banking > Checking > Current APY. Upon receiving a Direct Deposit or $5,000 in Qualifying Deposits to your account, you will begin earning 4.00% APY on savings balances (including Vaults) and 0.50% on checking balances on or before the following calendar day. You will continue to earn these APYs for (i) the remainder of the current 30-Day Evaluation Period and through the end of the subsequent 30-Day Evaluation Period and (ii) any following 30-day Evaluation Periods during which SoFi Bank determines you to have Direct Deposit activity or $5,000 in Qualifying Deposits without interruption.
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Members without either Direct Deposit activity or Qualifying Deposits, as determined by SoFi Bank, during a 30-Day Evaluation Period and, if applicable, the grace period, will earn 1.20% APY on savings balances (including Vaults) and 0.50% APY on checking balances.
Interest rates are variable and subject to change at any time. These rates are current as of 12/3/24. There is no minimum balance requirement. Additional information can be found at https://www.sofi.com/legal/banking-rate-sheet.
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Building a strong credit score takes time, and there is no time like the present to start working on improving your credit score. Even teenagers can help themselves get a leg up in the financial world by playing the credit game responsibly. What is the average credit score for a 19-year-old? According to FICO, the average Gen Zer (ages 18 to 27) has an average credit score of 680.
Keep reading for more insight into the average credit score of a 19-year-old, what factors affect credit scores, and how to build an impressive score.
Key Points
• The average credit score for a 19-year-old is 680, considered good.
• Payment history and amounts owed are the most influential factors on credit scores.
• Timely payments are essential; missing payments can harm your credit score.
• Keep credit utilization low, ideally below 30%, to maintain a healthy score.
• Regularly check and dispute any inaccuracies in your credit report to ensure accuracy.
Average Credit Score for a 19-Year-Old
All young adults can benefit from taking an interest in their credit score. And no matter your age, it helps to understand what credit score range you should be working toward. What’s the average credit score for a 19-year-old? As we mentioned, the average credit score for Gen Zers is 680.
A 680 credit score is considered good, but ideally teenagers and older consumers want to work toward a “very good” or “excellent” score. A very good credit score falls in the 740 to 779 range, and excellent is a score of 780 or higher.
A credit score is a three-digit numerical representation of an individual’s creditworthiness that credit scoring models calculate based on the consumer’s credit history. This calculation takes into account factors like payment history, debt levels, and the length of their credit activity.
Lenders use credit scores to assess the risk of lending money or extending credit. In general, the higher a credit score is, the less risk the borrower poses to the lender, as a high score indicates you are a responsible borrower.
Credit scores and credit reports are not the same thing. A credit report is a detailed record of an individual’s credit history, including information on loans, credit cards, payment history, and any bankruptcies or defaults. A credit score, on the other hand, is a numerical value derived from the information in the credit report.
So when it comes to credit, your goal is to keep your credit report healthy so your credit score reflects that good behavior. You can check your credit score from time to time to ensure you’re making progress.
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What Is the Average Credit Score?
There is no one standard credit score a 19-year-old should expect to maintain, but understanding what the average credit score is can help teens know what benchmark to work toward. As of October 2024, the average credit score for U.S. consumers was 717, according to FICO. This is categorized as a good credit score.
Average Credit Score by Age
It takes time to build a strong credit score, so young adults shouldn’t be too worried if their starting credit score is on the lower side. You can see from this table how the average credit score improves over time.
Age
Average FICO® Score
Generation Z (Ages 18-26)
680
Millennials (Ages 27-42)
690
Generation X (Ages 43-58)
709
Baby Boomers (Ages 59-77)
745
Source: FICO
What’s a Good Credit Score for Your Age?
Younger borrowers often face a disadvantage in building a high credit score since factors like having a long credit history, diverse credit mix, and consistent payment history require time to develop. However, borrowers typically aim for at least a “good” score and, ideally, over time can make their way into the “very good” or “exceptional” tiers.
How Are Credit Scores Used?
Because the primary use of credit scores is during the credit application process, it’s easy to overlook the fact that credit scores can impact different areas of your life. Yes, primarily lenders use credit scores to help determine if they want to lend money to a borrower and at what terms. But potential employers and landlords can also use credit scores to get an idea of how responsibly you handle money.
Factors Influencing the Average Credit Score
Building and maintaining a good credit score is an ongoing task. Consumers who want to keep their credit score nice and high for many years to come can benefit from learning what factors influence their credit score.
One of the best ways to keep your credit score in good standing is to understand how your credit behavior impacts your score. What affects your credit score? Your FICO Score, the most widely used credit scoring model, is influenced by five key factors. These factors include: payment history, amounts owed, length of credit history, types of credit used, and recent credit inquiries.
The impact of each factor on your overall score varies, with payment history and amounts owed typically playing the largest roles. Other models like VantageScore work in a similar way but may weigh these factors differently.
Credit Score Factor
Payment history
35%
Amounts owed
30%
Length of credit history
15%
New credit
10%
Credit mix
10%
How to Strengthen Your Credit Score
You don’t have to have perfect credit habits to improve your credit score, but trying to master as many of these factors as you can will help boost your FICO Score over time.
• Payment history: Missing a payment can negatively affect your score, so always make payments on time. This is the most important factor to stay on top of. If you struggle to stick to a budget, use a spending app to monitor your spending so you can afford to pay off your balances in full at the end of the month.
How long does it take to build credit? Being older may work in your favor when it comes to credit scores, but unfortunately you can’t speed up the clock.
As you age, you can expect some areas of your credit report to improve. For example, a 40-year-old has had much more time than a college student to build a long credit history, responsibly manage a mix of credit types, and make consistent, on-time payments.
What Factors Affect My Credit Score?
As we discussed, there are a number of factors that go into your credit score. Your payment history, credit utilization ratio, length of credit history, credit mix, and recently opened credit accounts all impact how high or low your credit score is.
At What Age Does Credit Score Improve the Most?
Because so many credit scoring factors rely on the benefit of time to improve naturally, it’s not surprising that we see that older consumers make a lot of credit score progress. Baby Boomers, in particular, may see a dramatic increase in their score compared to younger generations. As of 2023, consumers aged 59-77 have an average FICO Score of 745. Meanwhile, Generation X consumers (ages 43-58) have an average score of 709.
How to Build Credit
It can be challenging to obtain credit unless you already proved you can responsibly handle a loan or credit card. You can use a credit card to start your credit journey. While borrowers with high credit scores qualify for better cards with more favorable rates, you can find credit cards to qualify for with any credit score (even if you need to use a secured credit card to build credit).
Making timely payments is key here — a money tracker app can help you manage bill paying. Also, pay off your balance in full each month to keep your credit score happy and to avoid pesky interest charges.
Credit Score Tips
To maintain a healthy credit score, practice good habits like paying bills on time, keeping account balances under 30% of your credit limit, and avoiding frequent credit applications.
It’s also important to keep older accounts open to build credit history, maintain a diverse mix of credit types, and regularly check your credit report for errors. If you spot discrepancies, be sure to dispute them. These actions can help strengthen your creditworthiness and protect your score over time.
Taking good care of your credit score makes it easier to obtain favorable borrowing rates and terms. Consistency is key here. If you can master good credit habits at age 19, it gets easier and easier to keep your credit score nice and healthy.
Take control of your finances with SoFi. With our financial insights and credit score monitoring tools, you can view all of your accounts in one convenient dashboard. From there, you can see your various balances, spending breakdowns, and credit score. Plus you can easily set up budgets and discover valuable financial insights — all at no cost.
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FAQ
How to raise your credit score 200 points in 30 days?
Raising your credit score by 200 points in 30 days is challenging but may be possible in some situations. To start, pay off any outstanding balances, particularly high-interest ones, and reduce credit card utilization below 30%. Lowering this ratio is one of the fastest ways to see credit score movement. You can also consider disputing any inaccuracies in your credit report for a quick fix (if an error occurred that is harming your credit score).
Is a 650 credit score good at 18?
Having a credit score of 650 at the age of 18 is very impressive. While this is only a “fair” credit score by FICO standards, it’s a strong step in the right direction, and most teenagers don’t have an immediate need for a super high credit score.
How to get 800 credit score in 45 days?
Achieving an 800 score in 45 days is difficult unless you already have a very high credit score. To make swift progress, focus on paying off existing debt, reducing credit utilization, and ensuring all payments are made on time.
How to get a 600 credit score at 18?
The only way to have a credit score of 600 at 18 is to hit the ground running. Your parents can help you build your credit score before turning 18 by making you an authorized user on their credit card, or you can open a secured credit card when you turn 18. And be sure to make consistent, on-time payments to the card.
Can you get a 700 credit score in 6 months?
Achieving a 700 credit score in six months is possible, but how realistic this goal is depends on your current credit score and how committed you are to improving it. Focus on paying down high-interest debt, keeping credit utilization low, making all payments on time, and ensuring your credit report is accurate.
What is the starting credit score for an 18-year-old?
The starting credit score for an 18-year-old is 300 (unless their parents helped them build a credit history before they turned 18). To make it easier to build their credit score at a young age, 18-year-olds can open a credit account, such as a secured credit card. That way, they can start building their score by making responsible payments.
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A 457 plan — technically a 457(b) plan — is similar to a 401(k) retirement account. It’s an employer-provided retirement savings plan that you fund with pre-tax contributions, and the money you save grows tax-deferred until it’s withdrawn in retirement.
But a 457 plan differs from a 401(k) in some significant ways. While any employer may offer a 401(k), 457 plans are designed specifically for state and local government employees, as well as employees of certain tax-exempt organizations. That said, a 457 has fewer limitations on withdrawals.
This guide will help you decide whether a 457 plan is right for you.
What Is a 457 Retirement Plan?
A 457 plan is a type of deferred compensation plan that’s used by certain employees when saving for retirement. The key thing to remember is that a 457 plan isn’t considered a “qualified retirement plan” based on the federal law known as ERISA (from the Employee Retirement Income Security Act of 1974).
These plans can be established by state and local governments or by certain tax-exempt organizations. The types of employees that can participate in 457 savings plans include:
• Firefighters
• Police officers
• Public safety officers
• City administration employees
• Public works employees
Note that a 457 plan is not used by federal employees; instead, the federal government offers a Thrift Savings Plan (TSP) to those workers. Nor is it exactly the same thing as a 401(k) plan or a 403(b), though there are some similarities between these types of plans.
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How a 457 Plan Works
A 457 plan works by allowing employees to defer part of their compensation into the plan through elective salary deferrals. These deferrals are made on a pre-tax basis, though some plans can also allow employees to choose a Roth option (similar to a Roth 401(k)).
The money that’s deferred is invested and grows tax-deferred until the employee is ready to withdraw it. The types of investments offered inside a 457 plan can vary by the plan but typically include a mix of mutual funds. Some 457 retirement accounts may also offer annuities as an investment option.
Unlike 401(k) plans, which require employees to wait until age 59 ½ before making qualified withdrawals, 457 plans allow withdrawals at whatever age the employee retires. The IRS doesn’t impose a 10% early withdrawal penalty on withdrawals made before age 59 ½ if you retire (or take a hardship distribution). Regular income tax still applies to the money you withdraw, except in the case of Roth 457 plans, which allow for tax-free qualified distributions.
So, for example, say you’re a municipal government employee. You’re offered a 457 plan as part of your employee benefits package. You opt to defer 15% of your compensation into the plan each year, starting at age 25. Once you turn 50, you make your regular contributions along with catch-up contributions. You decide to retire at age 55, at which point you’ll be able to withdraw your savings or roll it over to an IRA.
Who Is Eligible for a 457 Retirement Plan?
In order to take advantage of 457 plan benefits you need to work for an eligible employer. Again, this includes state and local governments as well as certain tax-exempt organizations.
There are no age or income restrictions on when you can contribute to a 457 plan, unless you’re still working at age 73. A 457 retirement account follows required minimum distribution rules, meaning you’re required to begin taking money out of the plan once you turn 73. At this point, you can no longer make new contributions.
A big plus with 457 plans: Your employer could offer a 401(k) plan and a 457 plan as retirement savings options. You don’t have to choose one over the other either. If you’re able to make contributions to both plans simultaneously, you could do so up to the maximum annual contribution limits.
Pros & Cons of 457 Plans
A 457 plan can be a valuable resource when planning for retirement expenses. Contributions grow tax-deferred and as mentioned, you could use both a 457 plan and a 401(k) to save for retirement. If you’re unsure whether a 457 savings plan is right for you, weighing the pros and cons can help you to decide.
Pros of 457 Plans
Here are some of the main advantages of using a 457 plan to save for retirement.
No Penalty for Early Withdrawals
Taking money from a 401(k) or Individual Retirement Account before age 59 ½ can result in a 10% early withdrawal tax penalty. That’s on top of income tax you might owe on the distribution. With a 457 retirement plan, this rule doesn’t apply so if you decide to retire early, you can tap into your savings penalty-free.
Special Catch-up Limit
A 457 plan has annual contribution limits and catch-up contribution limits but they also include a special provision for employees who are close to retirement age. This provision allows them to potentially double the amount of money they put into their plan in the final three years leading up to retirement.
Loans May Be Allowed
If you need money and you don’t qualify for a hardship distribution from a 457 plan you may still be able to take out a loan from your retirement account (although there are downsides to this option). The maximum loan amount is 50% of your vested balance or $50,000, whichever is less. Loans must be repaid within five years.
Cons of 457 Plans
Now that you’ve considered the positives, here are some of the drawbacks to consider with a 457 savings plan.
Not Everyone Is Eligible
If you don’t work for an eligible employer then you won’t have access to a 457 plan. You may, however, have other savings options such as a 401k or 403(b) plan instead which would allow you to set aside money for retirement on a tax-advantaged basis. And of course, you can always open an IRA.
Investment Options May Be Limited
The range of investment options offered in 457 plans aren’t necessarily the same across the board. Depending on which plan you’re enrolled in, you may find that your investment selections are limited or that the fees you’ll pay for those investments are on the higher side.
Matching Is Optional
While an employer may choose to offer a matching contribution to a 457 retirement account, that doesn’t mean they will. Matching contributions are valuable because they’re essentially free money. If you’re not getting a match, then it could take you longer to reach your retirement savings goals.
💡 Quick Tip: Before opening any investment account, consider what level of risk you are comfortable with. If you’re not sure, start with more conservative investments, and then adjust your portfolio as you learn more.
457 Plan Contribution Limits
The IRS establishes annual contribution limits for 457 plans. There are three contribution amounts:
• Basic annual contribution
• Catch-up contribution
• Special catch-up contribution
Annual contribution limits and catch-up contributions follow the same guidelines established for 401(k) plans.
The special catch-up contribution is an additional amount that’s designated for employees who are within three years of retirement. Not all 457 retirement plans allow for special catch-up contributions.
Here are the 457 savings plan maximum contribution limits for 2024 and 2025.
2024
2025
Annual Contribution
Up to 100% of an employees’ includable compensation or $23,000, whichever is less
Up to 100% of an employees’ includable compensation or $23,500, whichever is less
Catch-up Contribution
Employees 50 and over can contribute an additional $7,500
Employees 50 and over can contribute an additional $7,500
Special Catch-up Contribution
$23,000 or the basic annual limit plus the amount of the basic limit not used in prior years, whichever is less*
$23,500 or the basic annual limit plus the amount of the basic limit not used in prior years, whichever is less*
*This option is not available if the employee is already making age-50-or-over catch-up contributions.
457 vs 403(b) Plans
The biggest difference between a 457 plan and a 403(b) plan is who they’re designed for. A 403(b) plan is a type of retirement plan that’s offered to public school employees, including those who work at state colleges and universities, and employees of certain tax-exempt organizations. Certain ministers may establish a 403(b) plan as well. This type of plan can also be referred to as a tax-sheltered annuity or TSA plan.
Like 457 plans, 403(b) plans are funded with pre-tax dollars and contributions grow tax-deferred over time. These contributions can be made through elective salary deferrals or nonelective employer contributions. Employees can opt to make after-tax contributions or designated Roth contributions to their plan. Employers are not required to make contributions.
The annual contribution limits to 403(b) plans, including catch-up contributions, are the same as those for 457 plans. A 403(b) plan can also offer special catch-up contributions, but they work a little differently and only apply to employees who have at least 15 years of service.
Employees can withdraw money once they reach age 59 ½ and they’ll pay tax on those distributions. A 403(b) plan may allow for loans and hardship distributions or early withdrawals because the employee becomes disabled or leaves their job.
Investing for Retirement With SoFi
When weighing retirement plan options, a 457 retirement account may be one possibility. That’s not the only way to save and invest, however. If you don’t have a retirement plan at work or you’re self-employed, you can still open a traditional or Roth IRA to grow wealth.
Ready to invest for your retirement? It’s easy to get started when you open a traditional or Roth IRA with SoFi. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).
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FAQ
How does a 457 plan pay out?
If you have a 457 savings plan, you can take money out of your account before age 59 ½ without triggering an early withdrawal tax penalty in certain situations. Those distributions are taxable at your ordinary income tax rate, however. Like other tax-advantaged plans, 457 plans have required minimum distributions (RMDs), but they begin at age 73.
What are the rules for a 457 plan?
The IRS has specific rules for which types of employers can establish 457 plans; these include state and local governments and certain tax-exempt organizations. There are also rules on annual contributions, catch-up contributions and special catch-up contributions. In terms of taxation, 457 plans follow the same guidelines as 401(k) or 403(b) plans: Contributions are made pre-tax; the employee pays taxes on withdrawals.
When can you take money out of a 457 plan?
You can take money out of a 457 plan once you reach age 59 ½. Withdrawals are also allowed prior to age 59 ½ without a tax penalty if you’re experiencing a financial hardship or you leave your employer. Early withdrawals are still subject to ordinary income tax.
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Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.
Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.
Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.
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There are a variety of taxes you may have to pay, such as Income tax, capital gains tax, sales tax, and property tax. Whether you’re new to the workforce or a seasoned retiree, taxes can be complicated to understand and to pay.
This guide can help. Here, you’ll learn more about what taxes are, the different types of taxes to know about, and helpful tax filing ideas. Read on to raise your tax I.Q.
Key Points
• Taxes are mandatory fees collected by the government to fund various activities and services.
• Income, sales, and property taxes are among the most common types affecting individuals.
• Capital gains tax is levied on profits from the sale of investments, with rates varying by holding period.
• In the U.S., sales tax is typically applied at the final transaction, unlike the European VAT system.
• Understanding the different types of taxes you may have to pay can you manage your money better.
What Are Taxes?
At a high level, taxes are involuntary fees imposed on individuals or corporations by a government entity. The collected fees are used to fund a range of government activities, including but not limited to schools, road maintenance, health programs, and defense measures.
Different Types of Taxes to Know
Here’s a detailed look at what are many of the different types of taxes that can be levied and the ways in which they are typically calculated and imposed, plus insights into how they might impact your checking account.
Income Tax
The federal government collects income tax from people and businesses, based upon the amount of money that was earned during a particular year. There can also be other income taxes levied, such as state or local ones. Specifics of how to calculate this type of tax can change as tax laws do.
The amount of income tax owed will depend upon the person’s tax bracket; it will typically go up as a person’s income does. That’s because the U.S. has a progressive tax system for federal income tax, meaning individuals who earn more are taxed more.
If you’re wondering what tax bracket you are in, know that there are currently seven different federal tax brackets. The amount owed will also depend on filing categories like single; head of household; married, filing jointly; and married, filing separately.
Deductions and credits can help to lower the amount of income tax owed (which might leave you with more money in your savings account).
And if a federal or state government charges you more than you actually owed, you’ll receive a tax refund. It can be helpful to check the IRS website or online tax help centers to learn more about income tax.
Property Tax
Property taxes are charged by local governments and are one of the costs associated with owning a home.
The amount owed varies by location and is calculated as a percentage of a property’s value. The funds typically help to fund the local government, as well as public schools, libraries, public works, parks, and so forth.
Property taxes are considered to be an ad valorem tax, which means they are based on the assessed value of the property.
Payroll Tax
Employers withhold a percentage of money from employees’ pay and then forward those funds to the government. The amount being withheld will vary, based on a particular employee’s wages, with federal payroll taxes being used to fund Medicare and Social Security. For 2025, the income threshold goes up to $176,100.
There are limits on the portion of income that would be taxed. For example, in 2024, a person’s income that exceeds $168,600 is not subject to a common payroll deduction, Social Security tax.
Because this tax is applied uniformly, rather than based on income throughout the system, payroll taxes are considered to be a regressive tax.
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Inheritance/Estate Tax
These are actually two different types of taxes.
• The first — the inheritance tax — can apply in certain states when someone inherits money or property from a deceased person’s estate. The beneficiary would be responsible for paying this tax if they live in one of several different states where this tax exists and the inheritance is large enough.
• The federal government does not have an inheritance tax. Instead, there is a federal estate tax that is calculated on the deceased person’s money and property. It’s typically paid out from the assets of the deceased before anything is distributed to their beneficiaries.
There can be exemptions to these taxes and, in general, people who inherit from someone they aren’t related to can anticipate higher rates of tax.
Regressive, Progressive, and Proportional Taxes
These are the three main categories of tax structures in the U.S. (two of which have already been mentioned above). Here are definitions that include how they impact people with varying levels of income.
What’s a Regressive Tax?
Because a regressive tax is uniformly applied, regardless of income, it takes a bigger percentage from people who earn less and a smaller percentage from people who earn more.
As a high-level example, a $500 tax would be 1% of someone’s income if they earned $50,000; it would only be half of one percent if someone earned $100,000, and so on. Examples of regressive taxes include state sales taxes and user fees.
What’s a Progressive Tax?
A progressive tax works differently, with people who are earning more money having a higher rate of taxation. In other words, this tax (such as an income tax) is based on income.
This system is designed to allow people who have a lower income to have enough money for cost of living expenses.
What’s Proportional Tax?
A proportional tax is another way of saying “flat tax.” No matter what someone’s income might be, they would pay the same proportion. This is a form of a regressive tax and proportional taxes are more common at the state level and less common at the federal level.
Capital Gains Tax
Next up, take a closer look at the capital gains tax that an investor may be responsible for paying when having stocks in an investment portfolio. This can happen, for example, if they sell a stock that has appreciated in value over the purchase price.
The difference in the increased value from purchase to sale is called “capital gains” and, typically, there would be a capital gains tax levied.
An exception can be when an investor sells increased-in-value stocks through a tax-deferred retirement investment inside of the account. Meanwhile, dividends are taxed as income, not as capital gains.
It’s also important for investors to know the difference between short-term and long-term capital gains taxes. In the U.S. tax code, short-term is one year or less, while long-term is anything longer. For tax year 2024, the federal tax rate on gains made by short-term investments are taxed as ordinary income. For long-term investment gains, the rates will be between 0% and 20%, based on filing status and taxable income.
Ideas for tax-efficient investing can include to select certain investment vehicles, such as:
• Exchange-traded funds (ETFs): These are baskets of securities that trade like a stock. They can be tax-efficient because they typically track an underlying index, meaning that while they allow investors to have broad exposure, individual securities are potentially bought and sold less frequently, creating fewer events that will likely result in capital gains taxes.
• Index mutual funds: These tend to be more tax efficient than actively managed funds for reasons similar to ETFs.
• Treasury bonds: There are no state income taxes levied on earned interest.
• Municipal bonds: Interest, in general, is exempted from federal taxes; if the investor lives within the municipality where these local government bonds are issued, they can typically be exempt from state and local taxes, as well.
VAT Consumption Tax
In the U.S., taxpayers are charged a regressive form of tax, a sales tax, on many items that are purchased. In Europe, the system works differently. A VAT tax is a form of consumption tax that’s due upon a purchase, calculated on the difference between the sales price and what it cost to create that product or service. In other words, it’s based on the item’s added value.
Here’s one big difference between a sales tax and a VAT tax:
• Sales tax is charged at the final part of the sales transaction.
• VAT, on the other hand, is calculated throughout each supply chain step and then built into the final purchase price.
This leads to another difference. Sales taxes are added onto the purchase price that’s listed; VAT contains those fees within the price and so nothing extra is added onto the price tag that a buyer would see.
Sales Tax
Ka-ching! You are probably used to sales tax being added to many of your purchases. It’s a method that governments use to collect revenue from citizens, and in America, it can vary by state and local area.
Funds collected via sales tax are frequently used for local and state budget items. These might include school, road, and fire department expenses.
Excise Tax
An excise tax is one that is applied to a specific item or activity. Some common examples are the taxes added to alcoholic beverages, amusement/betting pursuits, cigarettes (yes, the “sin taxes,” as they are sometimes called, gasoline, and insurance premiums.
These taxes are primarily paid by businesses but are sometimes passed along to consumers, who may or may not be aware that these taxes can be rolled into retail prices. Some excise taxes, however, are paid directly by consumers, such as property taxes and certain taxes on retirement accounts.
Luxury Tax
Luxury tax is just what it sounds like: tax on purchases that aren’t necessities but are pricey purchases. It can be paid by a business and possibly passed along to the consumer. Typical examples of items that are subject to a luxury tax include expensive boats, airplanes, cars, and jewelry.
The revenue that’s raised by these taxes may fund an array of government programs designed to benefit U.S. citizens.
Corporate Tax
Here’s another tax with a name that tells the story. Corporate tax is, quite simply, a tax on a corporation’s profits, or taxable income. This is based on a business’ revenue once a variety of expenses are subtracted, such as administrative expenses, the cost of any goods sold, marketing and selling costs, research and development expenses, and other related and operating costs.
Corporate taxes are specific to each country, with some having higher rates than others, and there are a variety of ways to lower them via loopholes, subsidies, and deductions.
Tariffs
Tariffs represent a protectionist tool that governments may use. That is, they are taxes levied on imported goods at the border. The idea is typically that this will help boost the cost of imports and hopefully nudge consumers to buy items made on home soil.
Surtax
A surtax is an additional tax levied by the government in addition to other taxes. It is typically paid by consumers when the government needs to raise funds for a specific program. For instance, a 10% surtax was levied on individual and corporate income by the Johnson administration in 1968. The funds were collected to help fund the war effort in Vietnam.
Tax Filing Ideas
Now that you know what the different types of taxes are, consider the event that makes many of us contemplate this topic: filing taxes. It’s an annual ritual that may trigger anxiety for many, but if you spend a little time educating yourself about the process, it’s not so scary. Here, a few ways to help make preparing for tax season easier:
• Consider how you’d like to file. Choose the method that best suits your needs and comfort level. You might want to work with a professional tax preparer to assist you, or perhaps use tax software to help you through the process. (Some taxpayers will qualify for the IRS Free File service, which is a free guided software tool.)
Another option is to fill out either the IRS form 1040 or 1040-SR by hand and mail it in, but given how this can open you up to human error and handwriting or typing mistakes, it’s not recommended.
• Gather all your paperwork. Being organized can be half the battle here. Develop a system that works for you (you might want to use a tax-preparation checklist) to collect such items as:
◦ Your W-2s and/or 1099 forms reflecting your income
◦ Proof of any mortgage interest paid or property taxes
◦ Retirement account contributions
◦ Interest earned on investments or money held in bank accounts
◦ State and local taxes paid
◦ Donations to charities
◦ Educational expenses
◦ Medical bills that were not reimbursed
• Even if you are lower-income and don’t need to file, consider doing so. It may be to your financial benefit. For instance, you might qualify for certain tax breaks, such as the earned income tax credit (EITC) or, if you’re a parent, the child credit.
• Whether you owe money or are getting a refund, know how to settle your account with the IRS. If you’ll be receiving a tax refund, you may want to request that it be sent via direct deposit to make the process as seamless and speedy as possible. If, on the other hand, you owe money, there are an array of ways to send funds, including payment plans. Do a little research to see what suits you best.
By getting ahead of tax filing deadlines in these ways, you can likely make this annual ritual a little less intimidating and time-consuming.
Understanding the different kinds of taxes can help you boost your financial literacy and your ability to budget well. You’ll know a bit more about why you pay federal and any state and local taxes and also be aware of other charges like luxury taxes and sales taxes.
Here’s another way to help your finances along: by partnering with a bank that puts you first.
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FAQ
What are the most common taxes people use?
The most common taxes that Americans pay are income tax on their earnings, sales tax on purchases, and property tax on their homes.
How many categories of taxes are there?
There are easily more than a dozen kinds of taxes levied in the U.S. Which ones you are liable for will depend on a variety of factors, such as whether you are an individual or represent a business, whether you purchase luxury items, and so forth.
Will I use all of these forms of taxes?
Which forms of taxes you will be liable for will likely depend upon the specifics of your situation. For example, among the most common taxes are income, property, and sales taxes, but if you rent rather than own your home, you won’t owe property taxes. If you purchase a boat, you might pay a luxury tax; if you like to frequent casinos, you could be paying excise taxes.
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As an alternative to direct deposit, SoFi members with Qualifying Deposits can earn 4.00% APY on savings balances (including Vaults) and 0.50% APY on checking balances. Qualifying Deposits means one or more deposits that, in the aggregate, are equal to or greater than $5,000 to an account holder’s SoFi Checking and Savings account (“Qualifying Deposits”) during a 30-day Evaluation Period (as defined below). Qualifying Deposits only include those deposits from the following eligible sources: (i) ACH transfers, (ii) inbound wire transfers, (iii) peer-to-peer transfers (i.e., external transfers from PayPal, Venmo, etc. and internal peer-to-peer transfers from a SoFi account belonging to another account holder), (iv) check deposits, (v) instant funding to your SoFi Bank Debit Card, (vi) push payments to your SoFi Bank Debit Card, and (vii) cash deposits. Qualifying Deposits do not include: (i) transfers between an account holder’s Checking account, Savings account, and/or Vaults; (ii) interest payments; (iii) bonuses issued by SoFi Bank or its affiliates; or (iv) credits, reversals, and refunds from SoFi Bank, N.A. (“SoFi Bank”) or from a merchant. SoFi members with Qualifying Deposits are not eligible for other SoFi Plus benefits.
SoFi Bank shall, in its sole discretion, assess each account holder’s Direct Deposit activity and Qualifying Deposits throughout each 30-Day Evaluation Period to determine the applicability of rates and may request additional documentation for verification of eligibility. The 30-Day Evaluation Period refers to the “Start Date” and “End Date” set forth on the APY Details page of your account, which comprises a period of 30 calendar days (the “30-Day Evaluation Period”). You can access the APY Details page at any time by logging into your SoFi account on the SoFi mobile app or SoFi website and selecting either (i) Banking > Savings > Current APY or (ii) Banking > Checking > Current APY. Upon receiving a Direct Deposit or $5,000 in Qualifying Deposits to your account, you will begin earning 4.00% APY on savings balances (including Vaults) and 0.50% on checking balances on or before the following calendar day. You will continue to earn these APYs for (i) the remainder of the current 30-Day Evaluation Period and through the end of the subsequent 30-Day Evaluation Period and (ii) any following 30-day Evaluation Periods during which SoFi Bank determines you to have Direct Deposit activity or $5,000 in Qualifying Deposits without interruption.
SoFi Bank reserves the right to grant a grace period to account holders following a change in Direct Deposit activity or Qualifying Deposits activity before adjusting rates. If SoFi Bank grants you a grace period, the dates for such grace period will be reflected on the APY Details page of your account. If SoFi Bank determines that you did not have Direct Deposit activity or $5,000 in Qualifying Deposits during the current 30-day Evaluation Period and, if applicable, the grace period, then you will begin earning the rates earned by account holders without either Direct Deposit or Qualifying Deposits until you have Direct Deposit activity or $5,000 in Qualifying Deposits in a subsequent 30-Day Evaluation Period. For the avoidance of doubt, an account holder with both Direct Deposit activity and Qualifying Deposits will earn the rates earned by account holders with Direct Deposit.
Members without either Direct Deposit activity or Qualifying Deposits, as determined by SoFi Bank, during a 30-Day Evaluation Period and, if applicable, the grace period, will earn 1.20% APY on savings balances (including Vaults) and 0.50% APY on checking balances.
Interest rates are variable and subject to change at any time. These rates are current as of 12/3/24. There is no minimum balance requirement. Additional information can be found at https://www.sofi.com/legal/banking-rate-sheet.
We do not charge any account, service or maintenance fees for SoFi Checking and Savings. We do charge a transaction fee to process each outgoing wire transfer. SoFi does not charge a fee for incoming wire transfers, however the sending bank may charge a fee. Our fee policy is subject to change at any time. See the SoFi Checking & Savings Fee Sheet for details at sofi.com/legal/banking-fees/. *Awards or rankings from NerdWallet are not indicative of future success or results. This award and its ratings are independently determined and awarded by their respective publications.
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