These frequently asked questions and answers are provided for general information only and should not be cited as any type of legal authority. They are designed to provide the user with information required to respond to general inquiries. Due to the uniqueness and complexities of Federal tax law, it is imperative to ensure a full understanding of the specific question presented, and to perform the requisite research to ensure a correct response is provided.
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The below questions and answers are general IRA questions.
Q1. What is a SIMPLE IRA plan?
A SIMPLE IRA plan is an IRA-based plan that gives small employers a simplified method to make contributions toward their employees’ retirement and their own retirement. Under a SIMPLE IRA plan, employees may choose to make salary reduction contributions and the employer makes matching or non-elective contributions. All contributions are made directly to an Individual Retirement Account or Individual Retirement Annuity (IRA) set up for each employee (a SIMPLE IRA). SIMPLE IRA plans are maintained on a calendar basis. See Publication 560, Publication 590, and Notice 98-4 for detailed information on SIMPLE-IRA plans.
Q2. Who can set up a SIMPLE IRA plan?
An employer may set up a SIMPLE IRA plan if:
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The employer had 100 or fewer employees who received $5,000 or more in compensation in the preceding calendar year; and
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The employer does not maintain another qualified plan while maintaining a SIMPLE IRA plan, unless the plan is for collective bargaining employees.
Q3. How do I establish a SIMPLE IRA plan?
You establish a SIMPLE IRA plan by visiting a financial institution and adopting a SIMPLE IRA plan document and then having your eligible employees establish SIMPLE IRAs. There are three basic steps in setting up a SIMPLE IRA plan, all of which must be satisfied.
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You may establish a SIMPLE IRA plan by adopting an IRS model SIMPLE IRA plan using either Form 5305-SIMPLE (if you require all contributions to be deposited initially at a designated financial institution) or Form 5304-SIMPLE (if you permit each employee to choose the financial institution for receiving contributions). You may also use a prototype SIMPLE IRA plan that was approved by the IRS. Approved prototype SIMPLE IRA plans are offered by banks, insurance companies, and other qualified financial institutions.
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You must provide each eligible employee with certain information about the SIMPLE IRA plan and the SIMPLE IRA where contributions for that employee will be deposited. The information must be provided each year prior to the employees’ election period. Generally, the election period is 60 days prior to January 1 of a calendar year.
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A SIMPLE IRA must be set up for each eligible employee. You may use either IRS model Form 5305-S (a trust account) or 5305-SA (a custodial account). SIMPLE IRAs can be set up with banks, insurance companies, or other qualified financial institutions. The SIMPLE IRA is owned and controlled by the employee and you send the SIMPLE IRA plan contributions to the financial institution where the SIMPLE IRA is maintained.
See Publication 560, the Instructions to Form 5305-SIMPLE and Form 5304-SIMPLE, and Notice 98-4 for information on establishing a SIMPLE IRA plan.
Q4. Who is an eligible employee?
An eligible employee is someone who received at least $5,000 in compensation from you during any 2 years proceeding the current calendar year and is reasonably expected to receive at least $5,000 during the current calendar year. The term “employee” includes a self-employed individual who had earned income.
You may use less restrictive requirements to determine an eligible employee.
Q5. Are there employees that may be excluded?
Yes, you may exclude (a) employees covered by a union agreement whose retirement benefits were bargained for in good faith by the employees’ union and you; and (b) nonresident alien employees who have no U.S. source compensation from you.
Q6. Is there a deadline to set up a SIMPLE IRA plan?
You can set up a SIMPLE IRA plan effective on any date between January 1 and October 1, provided you did not previously maintain a SIMPLE IRA plan. If you previously maintained a SIMPLE IRA plan, you may set up a SIMPLE IRA plan effective only on January 1.
Q7. What type of contributions may be made to a SIMPLE IRA plan?
Each eligible employee may make a salary reduction contribution and you may make either a matching contributions or a non-elective contribution. No other contributions may be made under a SIMPLE IRA plan.
Q8. How much may an employee defer under a SIMPLE IRA plan?
An employee may defer up to $8,000 for 2003 ($9,000 for 2004, $10,000 for 2005 and $10,000 plus any cost-of-living adjustments for later years). Employees age 50 or over can make a catch-up contribution of up to $1,000 for 2003 ($1,500 for 2004, $2,000 for 2005, $2,500 for 2006 and $2,500 plus any cost-of-living adjustments for later years). The salary reduction contributions under a SIMPLE IRA plan are "elective deferrals" that count toward the overall annual limit on elective deferrals an employee may make to this and other plans permitting elective deferrals.
Q9. How much must I contribute for my employees to a SIMPLE IRA plan?
In addition to the employees' salary reduction contributions, you are generally required to match each employee’s salary reduction contribution on a dollar-for-dollar basis up to 3% of the employee’s compensation. Instead of the matching contribution, you may choose to make non-elective contributions of 2% of the employee’s compensation (compensation used for this contribution is limited to $200,000 in 2003, $205,000 in 2004 and subject to cost-of-living adjustments for later years). If you choose to make non-elective contributions, you must make them for all eligible employees whether or not they make salary reduction contributions, although you may choose to give the non-elective contributions only to eligible employees who make $5,000 or more in the year, if your document so provides.
Q10. Are there any other requirements for maintaining a SIMPLE IRA plan?
Yes, there is an annual employee notification requirement. Prior to the employee’s 60-day election period (which generally begins on November 2 nd prior to each calendar year) you must provide each eligible employee the following information:
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Details concerning the employee’s opportunity to make or change a salary reduction choice under the plan;
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Your decision to make either a matching or non-elective contribution; and
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A summary description that is usually provided to you by the financial institution where the SIMPLE IRAs are maintained.
See Publication 560and the Instructions to Form 5305-SIMPLE and Form 5304-SIMPLE for information on the notification requirement.
Q11. How much of the contributions I make to my employees' SIMPLE IRAs may I deduct on my tax return?
You may deduct all contributions you make to your employees’ SIMPLE IRAs on your tax return.
Q12. If my SIMPLE IRA fails to meet the SIMPLE IRA plan requirements, are the tax benefits for my employees and myself lost?
Generally, tax benefits are lost if the SIMPLE IRA plan fails to satisfy the Internal Revenue Code requirements. However, you can retain the tax benefits if you use one of the IRS correction programs to correct a failure. In general, when correcting a failure under the program, the correction should put employees in the position they would have been had the failure not occurred.
Note: The IRS has a system of correction programs for sponsors of retirement plans that are intended to satisfy Internal Revenue Code requirements but have not met the requirements for a period of time. The IRS is accepting submissions related to the correction of SIMPLE IRA plan failures. Correcting SIMPLE IRA plan failures permits an employer to continue to provide their employees with retirement benefits on a tax-favored basis. See Revenue Procedure 2003-44.
