Are you a business owner considering switching from a SIMPLE IRA to a 401(k)? Let’s talk it through.
Let’s start with the obvious. A 401(k) allows participants to defer more into the program – up to $18,500 in 2018. That is in comparison to $12,500 with the SIMPLE IRA. The maximum deferral limit is simply larger in a 401(k) plan than it is in a SIMPLE. If your company has participants maxing out their deferrals in a SIMPLE IRA, it might be time to switch to a 401(k).
The catch-up. If an employee is over 50, he or she can increase contributions by an additional $3,000 in a SIMPLE IRA. However, in a 401(k), he or she can increase contributions by an additional $6,000. So that means that if you’re over the age of 50, you can contribute an additional $9,000 each year in the 401(k) than you could in the SIMPLE IRA. Since you’re a plan fiduciary, it’s your duty to make sure you’re doing what’s best for your participants – so if they’re maxing out, it may be time to look into some new options.
What about Roth? The after-tax Roth contribution is not permitted in a SIMPLE IRA. For those that are married and filing their taxes jointly, the income limit for a Roth IRA is between $189,000 and $199,000 (2018). If your income exceeds those limits you are not able to contribute to a Roth IRA, where the money is taxed when it goes in, but when you withdraw it in retirement all the earnings are tax free. In a 401(k), Roth is permitted and there are no income limits as to who can use that feature. Therefore, this is the only retirement vehicle that allows everyone, regardless of income, to contribute to their retirement with Roth dollars.
This all seems great, but what are some of the cons between a 401(k) and a SIMPLE IRA?
The SIMPLE IRA may never have been subject to compliance testing or annual 5500 filings, but the 401(k) is. There are companies (TPAs) that handle this for you and it should be quite simple. Because of these new tests and fiduciary standards that the 401(k) is subject to, there will more than likely be an increase in cost. Costs for a 401(k) can be paid for by the employer (and written off as a business expense) or can be paid for by the participants through plan assets – or any combination of the two.
Offering a SIMPLE plan maybe be administratively more cost efficient in the “right now” scenario, but saving a bit of change on retirement plan costs could actually “cost” you or your employees hundreds of thousands in retirement plan savings in the long run. See the example below:
1. $9,000 of additional savings per year for 10 years for an employee at the age of 52
2. A conservative 6% rate of return on that money over the 10 years
Given this scenario the employee would have, roughly, an additional $138,000 to their retirement at age 65!
We’ve made an easy to read, “at-a-glance” chart for you below to see the differences. If you have any questions – contact PGR Solutions (firstname.lastname@example.org) and we’ll work with you to see if switching from a SIMPLE IRA to a 401(k) is the right choice for you.