Considering SIMPLE IRAs, SIMPLE 401(k) plans, or SEPs? What to know

Advantages and disadvantages of SIMPLE IRAs, SIMPLE 401(k)s, and SEPs

Savings Incentive Match Plan for Employees (SIMPLE) IRAs, SIMPLE 401(k) plans, and simplified employee pension (SEP) plans are all designed with the small employer in mind. There’s some overlap among them, but, ultimately, each is quite different and helps plan sponsors address varying priorities.

These aren’t the only retirement plan options available to small business owners. Depending on your client’s business, other plans such as 401(k)s, 403(b)s, or 457s may be a good fit. A 401(k) plan includes a solo 401(k), or one-participant 401(k) plan.

SEPs vs. SIMPLE IRAs—what are the differences?

SEPs and SIMPLE IRAs have a lot in common:

• Participants in both plan types have IRAs set up for them, making their accounts easy to transport if changing employers.
• All contributions are immediately vested.
• Participants, not employers, make investment decisions.
• Form 5500s aren’t required, and both plan types are exempt from all nondiscrimination testing, making administration relatively simple for both plans.
• Loans aren’t allowed.

The differences start with the type of employer eligible to offer the plan. Any company can offer a SEP plan, but only businesses with 100 or fewer employees making at least $5,000 can offer SIMPLE IRAs. There’s a handful of other notable differences:

• Eligibility—SIMPLE IRAs can’t implement age or service requirements but can require an eligible employee to have $5,000 of income in two previous years and expected in the current year. SEPs can require eligible employees to have attained age 21, have been employed with the employer for at least three of the past five years, and have compensation of at least $750 for 2023.
• Multiple plans—Companies can offer other retirement plans alongside a SEP if they choose. That’s generally not the case if they offer a SIMPLE IRA.
• Employee deferrals—SIMPLE IRAs allow participants to save up to $15,500 per year, plus another $3,500 for participants age 50 and older. Employee deferrals aren’t permitted in SEPs—they’re 100% employer funded.
• Employer contributions—Employers have the discretion to contribute to a SEP each year. SIMPLE IRAs require either a company matching or nonelective contribution every year.
• In-service withdrawals—Participants can take distributions from a SIMPLE IRA or SEP at any time; however, if the participant hasn’t attained age 59½, the distribution may be subject to a 10% early withdrawal penalty, unless an exception applies. The early withdrawal penalty is increased to 25% if a participant who’s under age 59½ takes an in-service withdrawal from a SIMPLE IRA within two years of joining the SIMPLE IRA.

Small businesses have several retirement plan options 

Fortunately, there are many plan types available for your small business clients. But that also means you need to be sure you know the differences, so you can weigh the pros and cons for each of your clients. These options were designed for small employers, including self-employed individuals. They’re generally easier to administer with fewer testing requirements, but simplicity can come at the cost of potentially lower savings rates and less plan design flexibility. Companies may outgrow these plan types in favor of a traditional 401(k), for example, which enables higher contribution rates, employer contribution flexibility, custom plan designs, and more. Show your value by guiding your clients to the right plan for their needs.

1 The amounts shown are for the 2023 calendar year, and subject to an annual review and potential update by the IRS.