For small employers who don't want the administrative and fiduciary hassles that go along with a qualified plan, SIMPLE IRAs offer a practical substitute. Employer contributions are vested immediately, and employees continue to get tax and savings benefits. Here is all the information you want about a SIMPLE IRA, including how it can help you reach your retirement objectives and whether it is the best option for you.

What is a SIMPLE IRA Plan (Savings Incentive Match Plan for Employees) ?

A SIMPLE IRA plan allows employers and employees to contribute to traditional IRAs set up for employees. "SIMPLE" stands for "Savings Incentive Match Plan for Employees", while IRA is the acronym for individual retirement account. It is perfect for small businesses who do not currently sponsor a retirement plan as a start-up retirement savings plan.

Most small firms with 100 or fewer employees may use a SIMPLE IRA as their retirement savings plan. Employers have two options for making contributions to the plan: a non-elective contribution of 2% of the employee's pay or a dollar-for-dollar match of the employee's contributions up to 3% of the employee's salary.

The money in their SIMPLE IRA accounts is always fully vested in the employees who hold them. In other words, they can take all of the money, including any employer contributions, with them if they quit their employment. Deferred compensation, matching, and nonelective SIMPLE IRA contributions should be deposited as soon as possible to prevent penalties and the need to amend tax returns.

Key Facts of SIMPLE IRA Plan

  • An employee-sponsored retirement plan provided by employers inside small enterprises with 100 or less employees is known as a Savings Incentive Match Plan for Employees (SIMPLE IRA).
  • A SIMPLE IRA is a type of tax-deferred retirement savings plan.
  • Both the employees and employer can then contribute to these accounts. 
  • Non-discrimination and top-heavy tests, vesting schedules, and tax reporting at the plan level are not necessary for SIMPLE IRAs.
  • Before the age of 59½, withdrawals from a SIMPLE IRA are subject to ordinary income taxes and a 10% penalty.
  • Employers who offer Savings Incentive Match Plan for Employees IRAs are obligated to include specific information on a plan participant's W-2 form.

How Does the SIMPLE IRA Plan Work ?

An employer-sponsored retirement plan called a SIMPLE IRA is available in small businesses with fewer than 100 employees. The Internal Revenue Service (IRS) mandates that employers who offer SIMPLE IRAs report specific information on the W-2 forms of participating employees.

But for these accounts, specific criteria apply. In particular, the employer matching incentive is a feature of a SIMPLE IRA. As a result, whether an employee chooses to contribute to the plan or not, the employer must either match the contributions that employees make to their plan up to 3% (but no less than 1% of their pay) or make contributions for employees equal to a flat 2% of their salary.

The simplicity of SIMPLE IRAs, which just require an initial plan document and yearly employee disclosures is one of their main draws. The plan is created by the employer and is managed by a financial institution. Startup and operating costs are modest, and companies can deduct the contributions they make to employees from their taxes.

Employees have complete ownership of a SIMPLE IRA from the start. In contrast, in-service withdrawals are taxed normally and are counted as income. In addition, members under the age of 59½ can be charged a 10% early withdrawal penalty. The penalty is 25% if withdrawals are made during the first two years of issuance.

One of the many significant aspects of the SECURE Act of 2019 that is employers who establish 401(k) or SIMPLE IRA plans with automatic enrollment would receive a maximum tax credit of $500 year from the government.

Participate in a SIMPLE IRA Plan

Small businesses can use SIMPLE IRAs. Those who are sole-proprietors or self-employed are eligible to establish a SIMPLE IRA as well.

A SIMPLE IRA can only be created by employers with 100 or fewer employees. Employees must have at least $5,000 in compensation from any two prior calendar years and be expected to earn at least $5,000 in the current year in order to be eligible for the SIMPLE IRA plan.

Employers may choose for more lenient participation criteria if they so choose. Employees who get benefits from a union may potentially be excluded by their employer from membership.

Companies that fulfil those requirements just need to open IRA accounts for employees and inform employees of their options with regard to the SIMPLE IRA plan. The following employer may not be included in a SIMPLE IRA plan by their employer :
  • Employees covered by union agreement whose retirement benefits were negotiated in good faith between the employer and employees' union.
  • Nonresident alien employees for whom the employer does not pay U.S. wages, salaries, or other compensation for personal services.

SIMPLE IRA Plan Contribution Limits

There are two ways to contribute to a SIMPLE IRA, Either the employer will match employee contributions or will contribute on the employees' behalf. Employees who choose to make contributions do so through salary deferral.

The annual contribution limit for a SIMPLE IRA Plant is $14,000 for 2022 and $15,500 in 2023. For employees age 50 or older, a $3,500 “catch-up” contributions is also allowed.

Employers are required to make an annual contribution and may do so either through non-elective contributions or matching contributions based on employee contributions, known as elective contributions. Employers have two options. They can :
  • Match up to 3% of an employee's annual salary as a contribution to the plan every year, or
  • Make non-elective contributions up to $330,000 for 2023, equal to 2% of each qualifying employee's pay, regardless of whether the employee makes elective deferrals.

Rollovers With SIMPLE IRA Plan

Contributions and earnings from one SIMPLE IRA can be transferred to another tax-free. After two years of participation in the SIMPLE IRA plan, a SIMPLE IRA may also be rolled over tax-free to an IRA that is not a SIMPLE IRA.

Depending on how long you've been a plan participant, SIMPLE IRA rollovers can be easy or difficult. You can only roll money from one SIMPLE IRA into another if you've been a participant for under two years. Otherwise, you will be required to treat the money as a withdrawal and pay a 25% tax on it as taxable income.

SIMPLE IRA Withdrawals

A SIMPLE IRA withdrawal made by an employee before to retirement age is possible, but it comes with significant risks. Withdrawals from a SIMPLE IRA are subject to ordinary income taxes since the IRS views them as income to the account holder.

All withdrawals from SIMPLE IRA accounts made before the age of 59½ are subject to normal income taxes in addition to a 10% early withdrawal penalty from the IRS, just like with traditional IRA accounts. The penalty tax increases to 25% if the employee takes those withdrawals within the first two years of joining the SIMPLE IRA plan.

The most frequent exclusion from this tax penalty may be unreimbursed medical expenses that total more than 10% of a person's gross adjusted income.

When SIMPLE IRA Contributions be Deposited ?

Depending on the type of contribution and whether it is being made by the employer or the employee, different deadlines apply to SIMPLE IRA contributions.

Employee Contribution Deadline :

Contributions for employee salary reductions must be made no later than 30 days after the end of the month in which they would have otherwise been paid in cash to the employee (including self-employed people).

Employer Contribution Deadline :

Employer matching or nonelective contributions must be made by the due date (including extensions) for filing your federal income tax return for the year. (usually April 15, or Oct. 15)

How to Set up SIMPLE IRA Plan ?

To hold the retirement plan assets for each employee or participant in the SIMPLE IRAs, you must select a financial institution to serve as trustee. The contributions you make to the plan will be transferred to these accounts. You might also allow employees to pick the financial institution that will receive their contributions.

There are 3 steps to establishing a SIMPLE IRA plan.
  • Make a written agreement that all qualified employees will receive benefits.
  • Provide specific details about the agreement to the employees.
  • Create IRA accounts for every employee.

Employers create the plan using Internal Revenue Service (IRS) Form 5304-SIMPLE if they want to let employees pick the financial institution where their SIMPLE IRAs will be held, or Form 5305-SIMPLE if the employer wishes to pick the institution. To open their accounts, employees must complete a SIMPLE IRA adoption agreement.

Employers must make annual contributions to the plan after it is established until the plan is dissolved. Employers, however, have the option to choose between the 2% required contribution and the 3% matching contribution as long as they abide by IRS regulations.

SIMPLE IRA Filing Requirements

Salary deferral contributions for the SIMPLE IRA must be disclosed on each participant employee's W-2 since the SIMPLE IRA functions similarly to other employer-sponsored retirement plans.

The employee's SIMPLE IRA contributions are deducted from the "wages, tips, and other remuneration" box on Form W-2 for employee compensation, and box 13 "retirement plan" is checked.

The taxpayer calculates and reports the total annual contributions' dollar amounts, which are not expressly specified. The federal income tax is not withheld from SIMPLE IRA contributions. While nonelective and matching contributions are exempt from these taxes, salary reduction contributions are subject to Social Security, Medicare, and federal unemployment (FUTA) taxes. For these boxes on the Form W-2, which are numbered 3 and 5, respectively, contribution amounts are subtracted from wages.

On Schedule 1, Line 28. of Form 1040, Employee Participants submit their contributions for the year.

On Schedule C of the business's tax return, the employer is given a deduction for any matching contributions paid to the participant. The company's matching funds are not included on the employee's W-2 form because the contributions are tax deductible for the employer.

SIMPLE IRA Plan Deadline

If you did not previously maintain a SIMPLE IRA plan, you may establish one on any date between January 1 and October 1 of a given year. If you are a new employer who begins operations after October 1 of the plan year and who establishes a SIMPLE IRA as soon as is administratively practical after starting your business, this rule does not apply to you. You can only establish a SIMPLE IRA plan that becomes effective on January 1 of a year if you previously maintained a SIMPLE IRA plan. A SIMPLE IRA plan's effective date cannot be earlier than the day you actually accept it.

How to Terminate SIMPLE IRA Plan ?

SIMPLE IRA plans must be kept up for an entire calendar year, with the exception of the initial year you set up your plan. Once you've begun, you must keep up your SIMPLE IRA plan for the full fiscal year by making all of the contributions that you committed to making in the employee notice.

In the event that you decide that your SIMPLE IRA plan is no longer appropriate for your company, speak with your financial institution to see if another retirement plan would be a better fit.

Step 1 :
Inform your staff that the SIMPLE IRA plan will be terminated on January 1 of the next year within a fair amount of time before November 2.

Step 2 :
Notify the payroll company and financial institution that administers your SIMPLE IRA plan that you no longer want to make contributions to the plan in the upcoming calendar year.

Step 3 :
You don't have to let the IRS know that you've ended your SIMPLE IRA plan, but you should retain records of your actions nonetheless.

Benefits of SIMPLE IRA Plan

1) Tax-Deferred Savings :
Employees can contribute a percentage of their wages to SIMPLE IRAs, just like they can to other kinds of IRAs and employer-sponsored retirement plans. Up until retirement payouts are taken, the money grows tax-deferred.

2) Simpler to Run :
The majority of the red tape that comes with qualified plans is not necessary for SIMPLE IRAs. Employers don't need to hire workers that have particular training because SIMPLE IRAs are comparatively simple to set up and manage.

3) Instant, Mandatory Vesting :
Employer matching contributions become the employee's property immediately and are transferable regardless of tenure.

4) Tax Credit for Employers :
A tax credit is available to small businesses under the SECURE Act to help defray the cost of establishing a SIMPLE IRA plan with auto-enrollment. The start-up credit they already receive, which is equal to 50% of required qualified start-up expenditures up to a maximum of $500 per year for the first three years of the plan, is supplemented by this tax credit.

5) Tax Credit for Employee Contributions :
A non-refundable savings credit of up to $2,000 per year may be available to employees whose adjusted gross income is below a predetermined threshold.

6) Various Investment Options :
The IRS states that SIMPLE IRA contributions may be used to purchase "individual stocks, mutual funds, and similar types of assets".

7) Subject to Taxes :
Despite not being subject to income tax withholding, salary deferral payments to a SIMPLE IRA are nevertheless liable to tax under the Social Security, Medicare, and Federal Unemployment Tax Act (FUTA). Non-elective contributions and employer matching are exempt from taxes.

Drawbacks of SIMPLE IRA Plan

A SIMPLE IRA's limitation on retirement savings compared to other small business retirement plans, such as a simplified employee pension (SEP) or 401(k) plan, which also has higher catch-up contribution limitations, is one of their drawbacks. Additionally, unlike a 401(k), a SIMPLE IRA cannot be converted into a standard IRA without a two-year delay from the employee's enrollment in the plan (k).

Frequently Asked Questions

Who owns contributions to a SIMPLE IRA?
All contributions made to SIMPLE IRA accounts are wholly held by the employee.

How a SIMPLE IRA Plan Works?
For small businesses with less than 100 employees, a SIMPLE IRA is a retirement plan. It enables small business owners to make contributions to their own and their staff members' retirement accounts. Employers may provide matching or non-elective contributions in addition to pay reductions made by employees. Contributions are made to an annuity or an individual retirement account (IRA).

What are the advantage of a SIMPLE IRA plan?
Easier to set up and operate, and less expensive. Opening a SIMPLE IRA has many advantages over other "qualified plans," including the fact that it is significantly simpler and less expensive to operate than a typical 401(k) plan. They have less to worry about in terms of regulations and administrative expenditures, which explains this.

What are the disadvantages of a SIMPLE IRA Plan?
A SIMPLE IRA's drawbacks include the absence of a Roth option, modest contribution caps, and steep fines for unqualified withdrawals.

What is the differences between SIMPLE IRA and 401(k) Plan?
Retirement plans include 401(k)s and SIMPLE IRAs. Small firms, specifically those with less than 100 employees, are eligible for SIMPLE IRAs. A 401(k) does not require an employer to make contributions, but many do, but SIMPLE IRAs also require the company to make contributions to the retirement plan. Additionally, SIMPLE IRA contribution caps are lower than 401(k) cap amounts.

Where are SIMPLE IRA Plan contributions deposited?
The financial institution you chose will handle the cash once you send the SIMPLE IRA plan contributions to it. Assets from one SIMPLE IRA can be transferred to another by employees. Contributions to SIMPLE IRA plans may be used to purchase particular stocks, mutual funds, and other comparable investments. The investment choices are made by each employee for their own accounts. Every participating employee must get an annual statement detailing the contributions made to their account during the previous year.

When employees want to stop SIMPLE IRA Plan contributions?
At any point, employees have the option to stop making salary reduction contributions to a SIMPLE IRA plan. The SIMPLE IRA plan may prohibit individuals from starting salary reduction contributions again until the start of the following calendar year if they want to do this. Employers who are providing nonelective employer contributions on behalf of their workers must keep doing so.

Can I terminate or amend SIMPLE IRA plan in the middle of the year?
No, you are not allowed to abandon your plan in the middle of the year. Once you've begun, you must keep up your SIMPLE IRA plan for the full fiscal year by making all of the contributions that you committed to making in the employee notice.