We are generally going to recommend a 401(k) Plan for a smaller business looking to set up a retirement plan for the first time. Clients often hear about a SEP or SIMPLE IRAs – both are marketed as cheaper and easier to maintain because they are exempt from certain IRS and Dept. of Labor filing requirements. However, both offer little flexibility and a smaller contribution options that are often important to business owners and available via a 401(k) Plan.
What is a SEP IRA?
A SEP plan allows employers to contribute to traditional IRAs (SEP-IRAs) set up for employees. A business of any size, even self-employed, can establish a SEP.
- Employees can’t have to make contributions, but will still receive employer contributions
- Contribution amounts are limited
- Limited ability to put in place eligibility criteria for company contributions.
- Employer contributions must be equal to all employees, including owners
- Employer must transmit employee and employer contributions to each account, can be burdensome and confusing (more on this later)
- Vesting Schedule on company contributions – not allowed
- Participant Loans are not permitted
What is a SIMPLE IRA?
- Employees may choose to make salary reduction contributions and the employer is required to make either matching or non-elective contributions.
- Employee contributions are limited to $12,500 in 2015 (vs. $18,000 in a 401k Plan)
- Employee catch-up contributions are limited to $3,000 in 2015 (vs. $6,000 in a 401k Plan)
- Employer must make a contribution each year of 2-3% of each eligible employee’s compensation
- Employer must transmit employee and employer contributions to each account, which can be burdensome and confusing (more on this later)
- No additional contributions can be made (vs. profit share contributions in a 401k Plan)
- Participant loans are not allowed
What’s better: a SEP/Simple or a 401k Plan? A 401(k) Plan!
- SEP & Simples are marketed as cheaper and easier because they are exempt from many of the reporting requirements, however, they lack the flexibility offered by a 401k Plan, which is particularly important to smaller or emerging/growing businesses
- We find that businesses tend to quickly outgrow a SEP/Simple
- Clients want to make a company contribution but take advantage of regulations that get the bulk of a company contribution into owner accounts
- If your workforce has grown, you want the ability to put more restricting eligibility and participation criteria in place.