SIMPLE IRA

What is a SIMPLE IRA?

A Savings Incentive Match Plan for Employees Individual Retirement Account, or SIMPLE IRA, is a retirement savings account that lets employers match their employees’ contributions as well as their own. The SIMPLE IRA is a traditional IRA in that the contributions come from pretax income, and the employer matches them up to a certain percentage.

Deeper definition

The SIMPLE IRA was created in 1997 to replace the SARSEP IRA. Like a traditional IRA, contributions made to a SIMPLE IRA are tax-deferred, meaning that the account holder won’t pay income tax on the amount she deposits into a SIMPLE IRA until she withdraws the money in retirement.

However, unlike a traditional IRA, the account holder’s employer makes matching contributions to the employee’s plan. That makes it similar to the 401(k) plan. Like a 401(k), the employee’s contributions are not tax-deductible, although the employer’s matching contributions can be tax-deductible for the employer.

The contribution rules for a SIMPLE IRA are different from the limit on a traditional IRA or SEP IRA. A SIMPLE IRA allows employee contributions; a SEP IRA doesn’t. Also, the contribution limit for a SIMPLE IRA is considerably higher than it is for a traditional IRA. In 2017, employees can contribute up to $12,500 to a SIMPLE IRA compared to just $5,500 to a traditional IRA, with an additional $3,000 “catch-up” contribution allowed each year after the employee turns 50.

The account holder’s employer may choose between matching the employee’s contributions to a SIMPLE IRA dollar for dollar, up to 3 percent of her salary, or contributing 2 percent of the employee’s salary to the plan, whether she makes contributions or not.

The SIMPLE IRA can be rolled over into another, non-SIMPLE IRA after the employee has participated in the plan for at least two years. But if the employee wants to withdraw from her SIMPLE IRA early, she’ll incur a 25 percent tax penalty if the withdrawal occurs within the first two years of participation and a 10 percent tax penalty for each withdrawal after that period. At age 59 ½, the employee can begin withdrawing from the SIMPLE IRA tax-free.

Need another way to save for retirement? Put some money away in a high-interest savings account.

SIMPLE IRA example

Marco just started working at a local bakery, which has 12 employees. The bakery has established a SIMPLE IRA plan for each employee. It matches employee contributions to the plan until the amount reaches 3 percent of the person’s salary. The first year that Marco worked at the bakery, he earned $25,000 and didn’t make any contributions to his SIMPLE IRA. Since it had nothing to match, the bakery didn’t make any contributions either. The second year, Marco got a raise to $30,000 and decided to contribute the extra $5,000 to his SIMPLE IRA. The bakery matched Marco’s contributions, up to $900, or 3 percent of his salary.

 

Other Investing Terms

Discount brokerage

Discount brokerage is a term every investor should understand. Bankrate explains it.

Blend fund

A blend fund is a mix both value and growth stocks. Bankrate explains.

Average annual yield

Average annual yield tells you the health of an asset over time. Bankrate explains.

Return on assets (ROA)

What is return on assets? Return on assets (ROA), also known as return on total assets, is a measure of how much profit a business is generating from its capital. This profitability ratio demonstrates the percentage growth rate in profits that are generated by the assets owned by a company. Deeper definition Return on assets tells investors […]

More From Bankrate