Simple IRA Rules

 

What is a Simple IRA Plan?

A Simple IRA plan is an IRA-based plan that gives small employers a simplified method to make contributions toward their employees’ retirement and their own retirement.

Who Can Establish a Simple IRA?

Simple plans may be established by employers who had no more than 100 employees who earned $5,000 or more in compensation during the previous calendar year.  All employees are taken into account whether or not they are entitled to participate in the plan.

Simple IRA Contribution Rules

Under simple rules, employees defer into their own simple IRA account and the employer makes contributions to the employees’ account, choosing one of the following two methods. 

1. Employers may match dollar-for-dollar up to 3% of the employee’s compensation. Employers may reduce the 3% limit on matching contributions for a calendar year at the employer’s election if:
• a.    The limit is not reduced below 1%.
• b.    The limit is not reduced more than 2 years out of the 5-year period that ends with the year for which the election is effective; and
• c.    Employees are notified of the reduced limit within a reasonable period of time before the 60-day election period during which employees can enter into salary reduction agreements.
2. Employers may make contributions at 2% of all eligible employees’ compensation.  This match contribution is made without regard of employee contributions.  In other words, if an eligible employee doesn’t make contributions to their own Simple IRA, Simple IRA laws still order that employers must contribute 2% to each eligible employee’s simple IRA account when this option is chosen.
   

When Does an Employer make Matching Contributions?

Simple IRA matching contributions must be made no later than the end of the 30-day period following the last day of the month in which amounts would otherwise have been payable to the employee in cash.

What is the Simple IRA Contribution Limit for 2011 and 2012?

An employee may defer up to $11,500 for 2011.  Also, as of October 2011, the IRS announced that 2012 maximum Simple IRA contributions will remain unchanged at $11,500.  Employees over the age of 50 may make additional simple IRA catch-up contributions up to $2,500 for 2011 and 2012.  Future limitations will be indexed to a cost-of-living index.

Can Simple IRA Contributions be Made to Any IRA?

No, contributions must be made to a simple IRA only.

How Do I Establish a Simple IRA Plan?

A Simple IRA may be established by adopting a Simple IRA plan document and setting up Simple IRA’s for the eligible employees.  Here are the basic steps.

1. Acquire a prototype Simple IRA plan document offered by a bank, an insurance company or a qualified financial institution.  Any mutual fund company or online discount brokerage company will usually give the employee the most options at the best price.
2. Employees must be provided with information about the Simple IRA plan.  Generally, the election period is 60 days prior to January 1 of the calendar year.
3. An account must be set up for each eligible employee.  The simple IRA is owned and controlled by the employee and the funds should be sent to the financial institution where the Simple IRA is maintained.  Funds are not held by the employer.
   

When Can I Set Up a Simple IRA?

According current laws, a Simple plan can be set up on any date between January 1 and October 1, as long as the employer did not previously maintain a Simple IRA.

Can I Make Contributions Under a Simple IRA and Another Type of Plan in the Same Year?

Generally, the IRS states that as long as there is a Simple IRA plan maintained, other plans cannot be maintained.

What if an Employee Does Not Want to Participate?

If a qualified employee who is entitled to contributions is not willing or unable to participate, then the employer must complete the necessary documents to set up a Simple IRA on the employee’s behalf with the financial institution selected by the employer.

Which Employees are Eligible for a Simple IRA?

All employees who received at least $5,000 in compensation from the employer during any 2 preceding calendar years (whether or not consecutive) and who are reasonably be expected to receive at least $5,000 in the current year must be considered eligible to participate in the current year.

May an Employee Opt-Out of a Simple IRA?

An employee may not opt out.  Of course, an employee does not have to contribute.  However, if an employer chooses the 2% non-elective contribution method for employer contributions, the employer will still have to contribute 2%.  

If, on the other hand, the employer chooses the 3% dollar-for-dollar match, then the employer would not have to contribute to an employee’s Simple IRA if the employee does not make contributions for himself or herself.

Can an Employee Make Withdrawals at Any Time?

Yes, an employer may not restrict employee withdrawals.

What are the Tax Consequences of a Simple IRA Withdrawal?

Generally, they are the same as any IRA withdrawal and will be taxed at ordinary income tax rates to the employee.  

However, if an employee takes a distribution from a Simple IRA during a 2-year period beginning on the date on which the individual first participated in the Simple IRA plan the additional penalty is increased from 10% to 25%

Can I Make a Simple IRA Rollover?

A simple IRA rollover may be made to another Simple IRA during the first 2-year period beginning on the date on which the individual first participated in any Simple IRA.  If a rollover is made to a traditional IRA during this first 2-year period, it will be subject to the 25% penalty.  

If, however, an IRA rollover is made after the 2-year period, Simple IRA rules dictate that the transfer will not be subject to the 25% penalty.  This money may be rolled into a traditional IRA to continue the tax deferral on the investments up to this point.