Definition of a Simple IRA Account
The difference between a Simple IRA account and a 401(k) account
Rules of Simple IRA accounts regarding contributions
Transfers with Simple IRA accounts
What is a Simple IRA account?
A Simple IRA account is a retirement plan offered by small businesses that have 100 employees or fewer. Small business owners may prefer Simple IRA accounts because they are a less expensive and less complicated alternative to a 401(k) plan. However, there are some distinctive rules that apply to these accounts. Specifically, with a Simple IRA account, the incentive to contribute is built by the employer in the plan. Accordingly, the employer must either match the contributions made by employees to their plan, up to 3% (but no less than 1%) of their salary, or provide contributions to employees of up to a 2% fixed rate of their salary, regardless of whether the employee chooses to contribute to the plan.
The difference between a Simple IRA account and a 401(k) account
This type of plan differs from a 401(k) plan. An employer offering a 401(k) plan can choose whether or not to match employee contributions. Many do so, but in tough economic times, matching programs can be among the first benefits to be cut. Employers who choose to offer Simple IRA accounts typically are required to match dollar for dollar from 1% to 3% of the employee’s salary.
In other respects, a Simple IRA account works in the same way a 401(k) plan does. Contributions to the plan are made pre-tax, and the money grows in the plan tax-deferred until it is withdrawn at retirement. If money is withdrawn before age 59 and a half, regular income tax will be due along with a 10% penalty (25% if you take it out within two years of joining the plan).
In a Simple IRA account, the employer likely offers you a wide range of mutual funds in stocks and bonds. If you are a small business owner, the decision to offer a Simple IRA account versus a 401(k) plan often has less to do with the size of your company or number of employees and more with how much cost and effort you want to invest in maintaining the plan. Simple IRA accounts typically do not impose filing requirements on the employer, and operating costs are lower than those associated with 401(k) plans and other traditional retirement plans.
Rules of Simple IRA accounts regarding contributions
Contribution limits for a Simple IRA account differ from those for a 401(k) plan. In 2022, employees can contribute $14,000 to a Simple IRA account, compared to $13,500 in 2021. The catch-up contribution limit is $3,000, making the total contribution limit for a Simple IRA account in 2022 $17,000 for participants aged 50 and older, compared to $16,500 in 2021.
In a 401(k) account, individuals can save $20,500 in 2022, or up to $26,500 with the catch-up contribution, which is an increase from $19,500 or $25,500 in 2021. As you can see, you can put a larger amount into a 401(k) plan.
However, if you have a Simple IRA account and participate in any other type of employer-sponsored retirement plan during the year, such as a 401(k) plan, the overall contribution limit across all plans is $20,500 in 2022 (compared to $19,500 in 2021).
Note: If you are a small business owner with high income, such as a doctor, dentist, or lawyer, you may prefer a 401(k) plan over a Simple IRA account due to the higher contribution limits offered by the former.
Transfers
With Simple IRA Accounts
Transfers in simple IRA accounts can be straightforward or troublesome, depending on how long you have been participating in the plan. If you have participated for less than two years, you can only transfer funds from one simple IRA account to another simple IRA account. Otherwise, the amount will be considered a withdrawal, and you will have to treat it as taxable income and pay a 25% tax on it (unless you are at least 59 and a half years old or meet another exception).
However, if at least two years have passed since you started participating in the plan, you can transfer funds to almost any type of IRA account, or even to an employer-sponsored retirement plan, such as a 401(k) plan. However, converting to a Roth IRA, while allowed, is often not advisable, as you will have to include any earnings growth in your taxable income.
Key takeaways:
- A simple IRA is a retirement plan offered by small businesses.
- A simple IRA differs from a 401(k) plan in some respects.
- The contribution limits for a simple IRA differ from the contribution limits for a 401(k) plan.
- Transfers in simple IRA accounts can be straightforward or troublesome, depending on how long you have been participating in the plan.
Please note that the information provided in this article does not constitute tax, investment, or financial advice. Investors should consider consulting with a financial professional to determine an appropriate retirement savings, tax, and investment strategy.
Source: https://www.thebalancemoney.com/what-is-a-simple-ira-2894167
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