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Patrick S. O’Connor: Retirement plans can be SIMPLE

Published: Saturday, March 8, 2014 5:30 a.m. CDT

If you’re a small business (or self-employed), there are many retirement plan alternatives available to help you and your eligible employees plan your financial future.

One popular option for organizations such as sole proprietorships, partnerships, corporations and nonprofit organizations to consider is the SIMPLE (Savings Incentive Match Plan for Employees) Individual Retirement Account (IRA).

Unlike some retirement plans, there are specific criteria a business must meet to participate in a SIMPLE IRA plan. Here are the answers to some commonly asked questions about this type of retirement plan:

• Can any business establish a SIMPLE IRA plan? Self-employed individuals and employers with fewer than 100 employees may adopt a SIMPLE plan. However, the business must not maintain any other employer-sponsored retirement plan where contributions are made or accrued during the calendar year in which the SIMPLE plan is effective. (This does not apply to plans that cover only union employees who are excluded for the SIMPLE plan.)

• What is the deadline for establishing such a plan in order for it to qualify for the 2014 tax year? The IRS deadline for establishing SIMPLE IRA plans for the current year is Oct. 1. After Oct. 1, plans can only be established for the next tax year. An exception to Oct. 1 exists if the business is a newly established company and has never sponsored a plan.

• Which employees are eligible to participate in this type of plan? An eligible employee is one who has received at least $5,000 in compensation from the employer during any two prior calendar years (does not need to be consecutive years) and who is reasonably expected to receive at least $5,000 compensation during the current year. In the plan’s initial agreement, the employer is able to elect to reduce the amount of compensation and the number of years required. However, there is no required participation for this plan – eligible employees can choose whether they want to participate and contribute.

• How much can employees contribute to the plan through salary deferral? The maximum salary deferral limit to a SIMPLE IRA plan for 2014 cannot exceed $12,000. If an employee is age 50 or older before Dec. 31, then an additional catch-up contribution of $2,500 is permitted.

• What are the maximum employer contribution limits for a SIMPLE IRA? Each year the employer must decide to do either a matching contribution (the lesser of the employee’s salary deferral or 3 percent of the employee’s compensation) or non-matching contribution of 2 percent of an employee’s compensation (limited to $260,000 for 2014). All participants in the plan must be notified of the employer’s decision.

• When must contributions be deposited? Employee deferrals should be deposited as soon as administratively feasible, but no later than 30 days after the last day of the month in which the amounts would otherwise have been payable to the employee. These rules also apply to self-employed individuals. The employer contributions deadline is the due date of the employer’s tax return, including extensions.

• Can there be a vesting scheduled with a SIMPLE IRA? There is no vesting scheduled with this type of plan – both employer and employee are immediately 100 percent vested.

• How are withdrawals from SIMPLE plans taxed? Withdrawals from this type of account are taxed as ordinary income. However, if a participant is younger than age 59.5 and makes a withdrawal within the first two years of plan participation, he or she will owe a 25 percent IRS penalty and ordinary income taxes on the amount withdrawn. After the initial two years of plan participation, the 25 percent IRS penalty is reduced to 10 percent for withdrawals before age 59.5. Exceptions to the 10 percent penalty on traditional IRAs are also exceptions to the 25 percent penalty on the SIMPLE. Direct transfers to another SIMPLE IRA will not be subject to this penalty.

• Patrick S. O’Connor, CRPC, is the managing principal, senior financial adviser and PIM Portfolio Manager at Wells Fargo Advisors Financial Network in Algonquin. He can be reached at 847-458-0142 or p.oconnor@wfafinet.com.

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