Hi Friends and welcome back to the IRA series, where I am unboxing the ins and outs of the Individual Retirement Account, better known as IRA’s. Wait, what? There are more types of IRA’s to choose from? Yes, sir, there surely are. Options, it’s what separates us from the savages. So today, we will talk more about the little twin brothers to the standard Traditional and Roth IRA accounts. That’s right, those two lovable oafs called the SEP IRA and the Simple IRA.
Diving right into the SEP IRA, well what does that even mean exactly? SEP stands for Simplified Employee pension. This type of retirement plan is one that is employer sponsored. This means that it must come directly from the organization you are working for or are employed by as an employee. It is only accessible through the employer because the employer is the one who sets it up and contributes to the account on behalf of their employees. What, free money!? Wow, how nice is that right? Yep, the employer makes deductible contributions to the employee’s retirement account for them. Another bonus to the SEP IRA is that if you are self-employed, you also qualify for this type of retirement account. You are technically an employee of your own business and in being so you qualify.
This is something that a self-employed individual can set up themselves and make contributions to as well. Another aspect to the SEP IRA, is that it is set up by the employer themselves. With the IRA being controlled and owned by the employee or self-employed individual, this allows for the employee to be completely vested in the account. If the self-employed person were to move the funds or withdraw them, that would be absolutely their right to do so. You virtually have the freedom to do as you wish with the SEP IRA account.
To be eligible to have this type of retirement account, all you have to do is pass some simple requirements such as being at least 21 years old. You will need to have been employed by someone or self-employed for at least three of the immediately preceding five years and you would have had to have been paid from your employer in the amount of at least $600 during 2020. As far as contributions go, the employer is the one who can make the deductible contributions and is mandated to make the same contribution percentages to all the employees. Yay for equality here! Every employee has to by law receive the same amount of contributions. The employer is not required to make annual contributions each year and they don’t have to make the same percentage amount. The most that the employer can contribute into a SEP IRA is limited to the lesser amount, which could be $57,000 or 25% of the employee income.
On the other hand, you have the SIMPLE IRA. The SIMPLE IRA, stands for Savings Incentives Match Plan for Employees Individual Retirement Account This type of retirement plan can be set up as part of an employer’s standard 401(k) plan or by using an individual participant IRA plan. The SIMPLE IRA has similar freedoms as well when it comes to selecting who the trustee of the account will be. An example of this could be your typical financial institution. Another liberty of the SIMPLE IRA, is that the employee can roll over or transfer the funds without having to meet the vesting or waiting requirements. Actually there are no vesting rules at all for the SIMPLE IRA. Once the plan has started, the participant is 100% vested in the plan the moment it is opened and as such can even move the employer contributed funds as well.
The main consideration for the SIMPLE IRA is that it can only be set up by employer’s who have 100 employees or less and those employees must receive at $5,000 in compensation from the employer, from the preceding year. For the employer, they must keep at the most, the 100-employee limit in order to continue contributing to the SIMPLE IRA. On the flip side of the coin, employees are able to participate in a SIMPLE IRA, if they earn at least $5,000 from the employer during any two years of employment and must anticipate to receive that much in the current year. If you are self-employed, in order to calculate your allowable contributions, your compensation must equal the net earning from your self-employment before subtracting any contributions made to the account.
There are certain timeframes that must be met in order to receive the contributions. For employers, they must contribute via employee elective deferral contributions within 30 days after the end of the month in which those same amounts would have normally been payable to the employee in cash. The match contributions are due by the date of the filing for the tax return year and can include the extension deadline. For those folks who are self-employed, you get a bit more flexibility in how you make your contributions. You must make the contribution within 30 days after the end of the tax year.
To understand both the SEP IRA and the SIMPLE IRA, there are a few key differences between them. Both of the retirement accounts are tax deferred, so that is an easy fact. Who can contribute is where the difference comes in. In the SEP IRA, only the employer can contribute to the account; whereas in the SIMPLE IRA, both the employer and the employee can make contributions. The limits to both retirement plans differ as well. In the SEP IRA, the employer can contribute up to $57,000 or 25% of the employees salary, whichever is less. In the SIMPLE IRA, the allowable amount is $13,500 for those people under 50 and for the ones older than 50 there is an additional $3,000 allowed for catch-up purposes. The SEP IRA is geared toward business with less than 100 employees or self-employed individuals, whereas the SIMPLE IRA is available to just about anyone.
The bottom line is that SEP and SIMPLE IRA are options that allow businesses to help their employees save for retirement. Depending on your specific circumstances, you will want to look into which one will fit your particular needs as there are certain aspects that can play into your favor or detriment. Factors such as filing status, business type, all will need to be considered when making an election. As all ways, it would behoove you to reach out to an expert tax strategist, such as myself, who can confidently guide you through and to the best individual retirement account. I am here to lend my wisdom and expertise to these types of tax and financial situations.
Well this wraps up another informative post about the SEP and SIMPLE IRA and how you can start saving for your future self in retirement.
Until next time friends stay tuned,
Cheers!
JD Longino, CPA
Do you have still any question about SEP and SIMPLE IRA? Call Accolade Accounting is a full-service accounting firm in Decatur and Atlanta, also serving nearby areas. We are specialized in accounting, business taxation, tax planning, and advising. Call us at 470-646-2663 for a free consultation.
