A SIMPLE Retirement Plan for the Self-Employed

Of all the retirement plans available to small business owners, the SIMPLE IRA plan (Savings Incentive Match PLan for Employees) is the easiest to set up and the least expensive to manage.

These plans are intended to encourage small business employers to offer retirement coverage to their employees. SIMPLE IRA plans work well for small business owners who don’t want to spend a lot of time and pay high administration fees associated with more complex retirement plans.

SIMPLE IRA plans really shine for self-employed business owners. Here’s why…

Self-employed business owners are able to contribute both as employee and employer, with both contributions made from self-employment earnings.

SIMPLE IRA plans calculate contributions in two steps:

1. Employee out-of-salary contribution
The limit on this “elective deferral” is $12,000 in 2014, after which it can rise further with the cost of living.

Catch-up. Owner-employees age 50 or older can make an additional $2,500 deductible “catch-up” contribution (for a total of $14,500) as an employee in 2014.

2. Employer “matching” contribution
The employer match equals a maximum of 3 percent of employee’s earnings.

Example: A 52-year-old owner-employee with self-employment earnings of $40,000 could contribute and deduct $12,000 as employee, and an additional $2,500 employee catch-up contribution, plus $1,200 (3 percent of $40,000) employer match, for a total of $15,700.

SIMPLE IRA plans are an excellent choice for home-based businesses and ideal for full-time employees or homemakers who make a modest income from a sideline business.

If living expenses are covered by your day job (or your spouse’s job), you would be free to put all of your sideline earnings, up to the ceiling, into SIMPLE IRA plan retirement investments.

A Truly Simple Plan

A SIMPLE IRA plan is easier to set up and operate than most other plans. Contributions go into an IRA you set up. Those familiar with IRA rules – in investment options, spousal rights, creditors’ rights – don’t have a lot new to learn.

Requirements for reporting to the IRS and other agencies are negligible. Your plan’s custodian, typically an investment institution, has the reporting duties. And the process for figuring the deductible contribution is a bit easier than with other plans.

What’s Not So Good About SIMPLE IRA Plans

Once self-employment earnings become significant however, other retirement plans may be more advantageous than a SIMPLE IRA retirement plan.

Example: If you are under 50 with $50,000 of self-employment earnings in 2014, you could contribute $12,000 as employee to your SIMPLE IRA plan plus an additional 3 percent of $50,000 as an employer contribution, for a total of $13,500. In contrast, a 401(k) plan would allow a $30,000 contribution.

With $100,000 of earnings, it would be a total of $15,000 with a SIMPLE IRA plan and $42,500 with a 401(k).

Because investments are through an IRA, you’re not in direct control. You must work through a financial or other institution acting as trustee or custodian, and you will generally have fewer investment options than if you were your own trustee, as you would be in a 401(k).

It won’t work to set up the SIMPLE IRA plan after a year ends and still get a deduction that year, as is allowed with Simplified Employee Pension Plans, or SEPs. Generally, to make a SIMPLE IRA plan effective for a year, it must be set up by October 1 of that year. A later date is allowed where the business is started after October 1; here the SIMPLE IRA plan must be set up as soon thereafter as administratively feasible.

If the SIMPLE IRA plan is set up for a sideline business and you’re already vested in a 401(k) in another business or as an employee the total amount you can put into the SIMPLE IRA plan and the 401(k) combined (in 2014) can’t be more than $17,500 or $23,000 if catch-up contributions are made to the 401(k) by someone age 50 or over.

So someone under age 50 who puts $9,000 in her 401(k) can’t put more than $8,500 in her SIMPLE IRA plan for 2014. The same limit applies if you have a SIMPLE IRA plan while also contributing as an employee to a 403(b) annuity (typically for government employees and teachers in public and private schools).

How to Get Started with a SIMPLE IRA Plan

You can set up a SIMPLE IRA plan account on your own, but most people turn to financial institutions. SIMPLE IRA Plans are offered by the same financial institutions that offer any other IRAs and 401k plans.

You can expect the institution to give you a plan document and an adoption agreement. In the adoption agreement you will choose an “effective date” – the beginning date for payments out of salary or business earnings. That date can’t be later than October 1 of the year you adopt the plan, except for a business formed after October 1.

Another key document is the Salary Reduction Agreement, which briefly describes how money goes into your SIMPLE IRA plan. You need such an agreement even if you pay yourself business profits rather than salary.

Printed guidance on operating the SIMPLE IRA plan may also be provided. You will also be establishing a SIMPLE IRA plan account for yourself as participant.

401k, SEPs, and SIMPLE IRA Plans Compared

 

401k SEP SIMPLE
Plan type: Can be defined benefit or defined contribution (profit sharing or money purchase) Defined contribution only Defined contribution only
Number you can own: Owner may have two or more plans of different types, including an SEP, currently or in the past Owner may have SEP and 401k Generally, SIMPLE is the only current plan
Due dates: Plan must be in existence by the end of the year for which contributions are made Plan can be set up later – if by the due date (with extensions) of the return for the year contributions are made Plan generally must be in existence by October 1 of the year for which contributions are made
Dollar contribution ceiling (for 2014): $52,000 for defined contribution plan; no specific ceiling for defined benefit plan $52,000 $24,000
Percentage limit on contributions: 50% of earnings for defined contribution plans (100% of earnings after contribution). Elective deferrals in 401(k) not subject to this limit. No percentage limit for defined benefit plan. Lesser of $52,000 of 25% of eligible employee’s compensation ($260,000 in 2014). Elective deferrals in SEPs formed before 1997 not subject to this limit. 100% of earnings, up to $12,000 (for 2014) for contributions as employee; 3% of earnings, up to $12,000, for contributions as employer
Deduction ceiling: For defined contribution, lesser of $52,000 or 20% of earnings (25% of earnings after contribution). 401(k) elective deferrals not subject to this limit. For defined benefit, net earnings. Lesser of $52,000 or 25% of eligible employee’s compensation. Elective deferrals in SEPs formed before 1997 not subject to this limit. Same as percentage ceiling on SIMPLE contribution
Catch-up contribution age 50 or over: Up to $5,500 in 2014 for 401(k)s Same for SEPs formed before 1997 Half the limit for 401k and SEPs (up to $2,750 in 2014)
Prior years’ service can count in computing contribution No No
Investments: Wide investment opportunities. Owner may directly control investments. Somewhat narrower range of investments. Less direct control of investments. Same as SEP
Withdrawals: Some limits on withdrawal before retirement age No withdrawal limits No withdrawal limits
Permitted withdrawals before age 59 1/2 may still face 10% penalty Same as 401k rule Same as 401k rule except penalty is 25% in SIMPLE’s first two years
Spouse’s rights: Federal law grants spouse certain rights in owner’s plan No federal spousal rights No federal spousal rights
Rollover allowed to another plan (Keogh or corporate), SEP or IRA, but not a SIMPLE. Same as 401k rule Rollover after 2 years to another SIMPLE and to plans allowed under 401k rule
Some reporting duties are imposed, depending on plan type and amount of plan assets Few reporting duties Negligible reporting duties

Please contact us if you are a business owner interested in exploring retirement plan options, including SIMPLE IRA plans.

Retirement Plan Options for Small Businesses

Employer-sponsored retirement plans have become a key component for retirement savings. They are also an increasingly important tool for attracting and retaining the high-quality employees you need to compete in today’s competitive environment.

Besides helping employees save for the future, however, instituting a retirement plan can provide you, as the employer, with benefits that enable you to make the most of your business’s assets. Such benefits include:

  • Tax-deferred growth on earnings within the plan
  • Current tax savings on individual contributions to the plan
  • Immediate tax deductions for employer contributions
  • Easy to establish and maintain
  • Low-cost benefit with a highly-perceived value by your employees

Here’s an overview of four retirement plans options that can help you and your employees save:

SIMPLE: Savings Incentive Match Plan

A SIMPLE IRA plan allows employees to contribute a percentage of their salary each paycheck and to have their employer match their contribution. Under SIMPLE IRA plans, employees can set aside up to $12,000 in 2014 (same as 2013) by payroll deduction. If the employee is 50 or older then they may contribute an additional $2,500. Employers can either match employee contributions dollar for dollar – up to 3 percent of an employee’s wage – or make a fixed contribution of 2 percent of pay for all eligible employees instead of a matching contribution.

SIMPLE IRA plans are easy to set up by filling out a short form. Administrative costs are low and much of the paperwork is done by the financial institution that handles the SIMPLE IRA plan accounts. Employers may choose either to permit employees to select the IRA to which their contributions will be sent, or to send contributions for all employees to one financial institution. Employees are 100 percent vested in contributions, get to decide how and where the money will be invested, and keep their IRA accounts even when they change jobs.

SEP: Simplified Employee Pension Plan

A SEP plan allows employers to set up a type of individual retirement account – known as a SEP-IRA – for themselves and their employees. Employers must contribute a uniform percentage of pay for each employee. Employer contributions are limited to whichever is less: 25 percent of an employee’s annual salary or $52,000 in 2014 ($51,000 in 2013). SEP plans can be started by most employers, including those that are self-employed.

SEP plans have low start-up and operating costs and can be established using a single quarter-page form. Businesses are not locked into making contributions every year. You can decide how much to put into a SEP each year – offering you some flexibility when business conditions vary.

401(k) Plans

401(k) plans have become a widely accepted savings vehicle for small businesses and allows employees to contribute a portion of their own incomes toward their retirement. The employee contributions, not to exceed $17,500 in 2014 (same as 2013), reduce a participant’s pay before income taxes, so that pre-tax dollars are invested. If the employee is 50 or older then they may contribute another $5,500 in 2014 (same as 2013). Employers may offer to match a certain percentage of the employee’s contribution, increasing participation in the plan.

While more complex, 401(k)plans offer higher contribution limits than SIMPLE IRA plans and IRAs, allowing employees to accumulate greater savings.

Profit-Sharing Plans

Employers also may make profit-sharing contributions to plans that are unrelated to any amounts an employee chooses to contribute. Profit-sharing Plans are well suited for businesses with uncertain or fluctuating profits. In addition to the flexibility in deciding the amounts of the contributions, a Profit-Sharing Plan can include options such as service requirements, vesting schedules and plan loans that are not available under SEP plans.

Contributions may range from 0 to 25 percent of eligible employees’ compensation, to a maximum of $52,000 in 2014 ($51,000 in 2013) per employee. The contribution in any one year cannot exceed 25 percent of the total compensation of the employees participating in the plan. Contributions need not be the same percentage for all employees. Key employees may actually get as much as 25 percent, while others may get as little as 3 percent. A plan may combine these profit-sharing contributions with 401(k) contributions (and matching contributions).

Call Us First

Pension rules are complex, and the tax aspects of retirement plans can also be confusing, so call us first. We’ll help you find the right plan for you and your employees.

A SIMPLE Retirement Plan for the Self-Employed

Of all the retirement plans available to small business owners, the SIMPLE plan is the easiest to set up and the least expensive to manage.

These plans are intended to encourage small business employers to offer retirement coverage to their employees. SIMPLE plans work well for small business owners who don’t want to spend a lot of time and pay high administration fees associated with more complex retirement plans.

SIMPLE plans really shine for self-employed business owners. Here’s why…

Self-employed business owners are able to contribute both as employee and employer, with both contributions made from self-employment earnings.

SIMPLE plans calculate contributions in two steps:

1. Employee out-of-salary contribution
The limit on this “elective deferral” is $11,500 in 2012, after which it can rise further with the cost of living.

Catch-up. Owner-employees age 50 or over can make an additional $2,500 deductible “catch-up” contribution (for a total of $14,000) as an employee in 2012.

2. Employer “matching” contribution
The employer match equals a maximum of 3% of employee’s earnings.

Example: A 52-year-old owner-employee with self-employment earnings of $40,000 could contribute and deduct $11,500 as employee, and an additional $2,500 employee catch-up contribution, plus $1,200 (3% of $40,000) employer match, for a total of $15,200.

SIMPLE plans are an excellent choice for home-based businesses and ideal for full-time employees or homemakers who make a modest income from a sideline business.

If living expenses are covered by your day job (or your spouse’s job), you would be free to put all of your sideline earnings, up to the ceiling, into SIMPLE retirement investments.

A Truly Simple Plan

A SIMPLE plan is easier to set up and operate than most other plans. Contributions go into an IRA you set up. Those familiar with IRA rules – in investment options, spousal rights, creditors’ rights – don’t have a lot new to learn.

Requirements for reporting to the IRS and other agencies are negligible. Your plan’s custodian, typically an investment institution, has the reporting duties. And the process for figuring the deductible contribution is a bit easier than with other plans.

What’s Not So Good About SIMPLE Plans

Once self-employment earnings become significant however, other retirement plans may be more advantageous than a SIMPLE retirement plan.

Example: If you are under 50 with $50,000 of self-employment earnings in 2012, you could contribute $11,500 as employee to your SIMPLE plus an additional 3% of $50,000 as an employer contribution, for a total of $13,000. In contrast, a 401(k) plan would allow a $29,500 contribution.

With $100,000 of earnings, it would be a total of $14,500 with a SIMPLE and $42,000 with a 401(k).

Because investments are through an IRA, you’re not in direct control. You must work through a financial or other institution acting as trustee or custodian, and you will generally have fewer investment options than if you were your own trustee, as you would be in a 401(k).

It won’t work to set up the SIMPLE plan after a year ends and still get a deduction that year, as is allowed with Simplified Employee Pension Plans, or SEPs. Generally, to make a SIMPLE plan effective for a year, it must be set up by October 1 of that year. A later date is allowed where the business is started after October 1; here the SIMPLE must be set up as soon thereafter as administratively feasible.

If the SIMPLE plan is set up for a sideline business and you’re already vested in a 401(k) in another business or as an employee the total amount you can put into the SIMPLE plan and the 401(k) combined (in 2012) can’t be more than $17,000 or $22,500 if catch-up contributions are made to the 401(k) by someone age 50 or over.

So someone under age 50 who puts $9,000 in her 401(k) can’t put more than $8,000 in her SIMPLE 2012. The same limit applies if you have a SIMPLE plan while also contributing as an employee to a 403(b) annuity (typically for government employees and teachers in public and private schools).

How to Get Started with a SIMPLE Plan

You can set up a SIMPLE account on your own, but most people turn to financial institutions. SIMPLE Plans are offered by the same financial institutions that offer IRAs and 401k master plans.

You can expect the institution to give you a plan document and an adoption agreement. In the adoption agreement you will choose an “effective date” – the beginning date for payments out of salary or business earnings. That date can’t be later than October 1 of the year you adopt the plan, except for a business formed after October 1.

Another key document is the Salary Reduction Agreement, which briefly describes how money goes into your SIMPLE. You need such an agreement even if you pay yourself business profits rather than salary.

Printed guidance on operating the SIMPLE may also be provided. You will also be establishing a SIMPLE IRA account for yourself as participant.

For more information: www.onts9.com