SIMPLE IRA and SEP IRA Retirement Plans

By | February 18, 2015

Payroll deduction IRAs, SEP IRAs, SARSEPs and SIMPLE IRAs – they all use IRAs as the investment vehicle. And IRAs are going to be set up for each participant, and any contributions will be made to that IRA. The participant has complete control of the IRA, and they can take a distribution at any time.


SIMPLE IRA and SEP IRA Retirement Plans

A payroll deduction IRA is really nothing more than an IRA, and whether an employee’s contributions to this payroll deduction IRA are deductible is going to be determined by their income. So, if you have a client that doesn’t have a retirement plan and they don’t have any interest in adopting a retirement plan, maybe you can convince them or encourage them to save through this payroll deduction IRA.


What is a Simplified Employee Pension SEP?

SEP has to be formally adopted by that plan’s sponsor. And this can be done by adopting the IRS model – that’s a 5305-SEP – or an approved SEP that’s offered by that financial institution. A SEP allows any employer to set up an IRA for themselves and their employees as long as they meet the eligibility requirements in the plan. A SEP is allowed to only include those employees who are at least 21 years of age, employed by the employer for three of the last five years and who earned $550 or more during the year. There is no hours-of-service requirement, and employees who meet these requirements must be allowed to participate. An employer can choose less restrictive eligibility requirements if they like. Contributions are limited to the lesser of $52,000 or 25 percent of compensation for 2014.

Employers must contribute a uniform percentage of pay for each employee who has met those eligibility requirements. If the owner received a 10 percent contribution, then everyone in the plan should get a 10 percent contribution. In a SEP, an owner is not required to make a contribution every year.


What is Savings Incentive Match Plan for Employees SIMPLE IRA?

This plan’s available to any employer with 100 or fewer employees that does not maintain another type of retirement plan at any time during the year. This one’s easily established using a Form 5304-SIMPLE or a 5305-SIMPLE. One of these model forms allows the employer to designate the financial institution where the IRA money is sent, and the other allows your employees to designate that financial institution. A SIMPLE IRA plan must be offered to all employees who have compensation of at least $5,000 in any prior two years and who are reasonably expected to earn at least $5,000 during the current year. There’s no age or hours of service requirement in this type of plan.


SIMPLE IRA versus 401k Plan

Now, a SIMPLE IRA is really like a very simple version of a 401(k) plan. Eligible employees contribute a percentage of their pay to the plan through payroll deductions, up to $12,000 in 2014. Employees who are 50 or older during the year can contribute an extra $2,500 in 2014. An employee’s contributions in the SIMPLE IRA are subject to the FICA payroll taxes, but they are exempt from current income tax.

Employers are required to make an annual contribution in a SIMPLE using one of two formulas. They can either match employee contributions dollar-for-dollar up to three percent of pay, or they can make a fixed contribution of two percent of pay for all eligible employees, even those who elect not to defer.


SIMPLE IRA vs SEP IRA Differences

A SIMPLE IRA plan is limited to a business with less than 100 employees while a payroll deduction IRA and a SEP do not have that limit. In Employee Plans exams, we don’t look at payroll dedications IRAs, but I’m guessing you would find those in the smallest companies. SEPs can be found in any sized company but are more likely to be found in very small businesses, especially if there are no other employees. A SIMPLE IRA plan may be adopted by a business with less than 100 employees, but you’ll most likely see them in a business with less than 20 employees. At some point with more participants, the economies of scale make a 401(k) plan more affordable there. The trade-offs for this low administration are fewer options. There are no loans allowed in an IRA-based plan.

The contributions are very limited in a payroll deduction IRA and SIMPLE IRA plan, although a SEP does allow a contribution of up to 25 percent of compensation or $52,000 for the year 2014. A big advantage with a SEP is that it can be set up as late as the due date, including extensions, of your business income tax return for that year. They are very easy to adopt. With a SIMPLE IRA plan, it’s a little more complicated. If the employer adopts a SIMPLE IRA plan, it cannot have any other plan during the year where it has the SIMPLE IRA plan. Also, you can terminate your SEP plan whenever you choose. There really aren’t any restrictions. But terminating a SIMPLE IRA plan can be a challenge. If you have a SIMPLE IRA plan in 2013 and you decide you would rather have a SEP or a 401(k), you have to terminate your plan before November 1. If not, you have a SIMPLE IRA plan for 2014 and, again, cannot have another type of plan.



One big factor with SEPs and SIMPLE IRA plans is that the eligibility requirements are very easy to meet, so employees that work a very limited schedule with a business become participants in the plan. For some that may be good. For some employers that may be bad. It just depends; if you have a lot of high turnover, you might not want to have one of these types of plans.


Which is better, a SEP or SIMPLE IRA?

A common mistake among SEP and SIMPLE IRA plans is using the wrong compensation amount to determine contributions. The instructions to the form and the selections you make on the adoption agreement will help determine the correct compensation to use. An IRA-based plan covers all employees. If a plan’s sponsor is a member of a controlled group, all employees of the businesses in that controlled group that have met the eligibility requirement must participate in the SEP or SIMPLE IRA. Don’t make the mistake of excluding those related employees. They cannot be excluded. If you want to make a contribution to a SEP, you have until the due date of your return, including extensions, to make that contribution. The timing of contributions to a SIMPLE IRA is very important.

Employee’s salary deferrals must be deposited into the plan no later than 30 days following the month the money was withheld from the employee’s paychecks. If the plan’s sponsor is a Schedule C owner, their deferrals must be deposited into the plan within 30 days of the end of the year. So, for the year 2014, the deposit must be made by January 30, 2015.