This week on MomsMakingaMillion radio, we discuss more on retirement planning for the small business owner. Perhaps Something SIMPLE
Kat: Today we discuss the SIMPLE IRA for small business in the last of our three part series with Paul. Tell us just what simple is.
Paul: The SIMPLE IRA, named because those letter stand for Savings Incentive Match PLans for Employees, are a much cheaper and far less complicated way for small employers to establish and administer than a traditional 401(k).
This type of plan is indeed easier to manage and implement but there are a few rules you need to keep in mind before choosing a SIMPLE IRA plan for you and your employees. You are required to make a contribution for every worker who receives $5,000 or more in compensation. It doesn’t have to be a lot but it has to be something up to but not exceeding $11,500 for the calendar year 2010. After that, it will be adjusted upward based on the Cost of Living.
Kat: You said the small business owner is required to make a contribution?
Paul: The contributions may resemble an employer match, just like those used when larger companies match employee contributions to their defined contribution plans (401k). But the employee must first elect to contribute to the plan themselves and your match to their contribution can not exceed 3% of their salary.
Employers may also choose to make the contribution on the employees behalf, contributing up to 2% of each worker’s wages, whether the worker contributes to the plan or not. This “non-elective” mandatory company match of 2% is required to be made on behalf of every employee.
Kat: Interesting. The employer must make the same contribution for every employee. How do you determine as a small business owner whether this plan is the right one for you?
Paul: Aside from the fact that the plan cost less to administer, the strings that tether the SIMPLE IRA might not be right for you or your company.
SIMPLEs have a built-in special tax penalty of 15% that is added to the 10% early withdrawal penalty for SIMPLE IRA withdrawals made within the first two years of opening a SIMPLE plan. Some financial professionals refer to it as the 2 and 25 penalty.
Although your retirement plan should not be considered a source of income, this penalty can make it more difficult to access that money in times of dire emergency. (But please, consider every other option first before withdrawing built up investments in these plans.)
Because of that string, a SIMPLE IRA can be much less flexible than a 401(k) plan for the average small business. Keep in mind the following while considering this type of plan. Will you be the only employee? If so, a Solo 401(k) might be best. If you are planning to grow your business slowly, adding employees on as needed, you should consider that contribution requirement. An employer must make contributions for all eligible employees and while they are doing so, no contributions can be made to other qualified retirement plans.
Kat: Are their advantages?
Paul: The contributions you make to the employees plan belong to the employee immediately after they are posted. This immediate vesting can be troublesome for some seasonal type of employers who do not expect to retain employees or demand their loyalty for a long period of time. In other words, the cash you contribute is portable.
Should you as an employer decide to end the plan, you must wait until the calendar year is completed and while you are waiting, you are obligated to continue with payments to the employee’s plan.
And here is something else you should consider: no loans are allowed.
If you however fit this profile: older than 50 and earning more than $120,000 per year, have no more that four employees, been in business for at least three or more years and are willing to make mandatory contributions to the plan for three consecutive years of $45,000 or more, there is possibly no better plan on the planet better than this one.
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