What is a SIMPLE IRA Plan?
It is one of the retirement plan enhancements made by the Small Business Job Protection Act of 1996. It is a retirement plan established by an employer for the exclusive benefit of employees. The SIMPLE IRA Plan design makes it easy for an employer to establish and administer. It allows both employee and employer contributions, but it does not require nondiscrimination testing or specialized government reporting typical of other retirement plans that feature salary deferrals. SIMPLE plans allow employees to contribute up to $6,000 per year to the plan. This contribution amount is indexed to annual cost-of-living adjustments, so it will probably increase over time.

How does an employer make contributions to the SIMPLE IRA?
Employers must add to the accounts of participating employees each year in one of several ways. 1) You may match each eligible employee’s contribution — dollar for dollar — up to 3% of each employee’s compensation; or, 2) you may elect a matching contribution of less than the 3% of compensation in any two out of the last five calendar years, including the year you choose to reduce the match. The reduction may not be less than 1% of each employee’s compensation; or, 3) in any year, you may replace the matching contribution with a contribution of 2% of the first $160,000 (indexed) of compensation to all eligible employees. This is the non-elective contribution. If you choose this option you must make contributions to all eligible employees regardless of whether or not they contribute through salary deferrals.

How do I know that my business is eligible for the SIMPLE IRA?
Before completing any of the forms in this kit, you should answer the following questions to determine your eligibility to establish a SIMPLE IRA Plan:

1. Last year, did your business employ more than 100 people who earned at least $5,000 from their employment with your business?

2. Does your business maintain any other qualified retirement plan or SEP for which contributions were made or benefits accrued for the benefit of your employees?

3. This SIMPLE IRA Plan requires that you make a financial commitment to the SIMPLE IRA of each participating employee each year. Do you feel any reluctance to make this mandatory contribution?

If you have answered YES to any one of these questions, then perhaps the SIMPLE IRA is not the plan for your business. There may be other retirement plans with more flexible and discretionary contribution options that you should discuss with your account representative and tax advisor.

SIMPLE Plans

You may decide that a SIMPLE is the preferred choice of employees for a retirement plan. Unlike SEP plans, SIMPLE plans allow employees to contribute to their own accounts. SIMPLE plans are aimed at small businesses with as many as 100 employees, including the owner.

SIMPLE plans can be either SIMPLE-IRAs or SIMPLE-401(k)s. A SIMPLE-IRA plan requires you to open an individual retirement account for each eligible employee, similar to how SEP-IRA plans are set up. (An eligible employee is defined differently for SIMPLE plans.)

You may set up a SIMPLE-IRA plan if you had 100 or fewer eligible employees in the preceding year. Once you have a SIMPLE-IRA in place, the IRS requires you to meet the 100-employee limit each year. If you exceed the limit, you may be entitled to a grace period to help you meet the requirement. See IRS Pub. 560 for more information.

If you establish a SIMPLE-IRA plan for the first time, you can make it effective for any date between January 1 and October 1. If you previously used a SIMPLE-IRA plan, the IRS requires that you make it effective from January 1. To set up a SIMPLE-IRA, complete either Form 5305-SIMPLE or Form 5304-SIMPLE.

SIMPLE-IRAs cannot be designated as Roth IRAs and contributions to a SIMPLE-IRA do not count toward the annual contribution limits of Roth IRAs.

For 2003, the contribution limit to a SIMPLE-IRA is $8,000. Employee contributions to a salary-reduction plan, which include SIMPLE-IRAs, are called elective deferrals. The Economic Growth and Tax Relief Reconciliation Act of 2001 authorized the following yearly increases in elective deferrals to SIMPLE-IRAs. The table also shows catch-up amounts for persons age 50 or older-

Year Yearly limit Catch-up limit
2002 $7,000 $7,500
2003 $8,000 $9,000
2004 $9,000 $10,500
2005 $10,000 $12,000
2006 Indexed for inflation Indexed amount + $2,500
2007 -- Indexed for inflation

If an employee participates in another defined-contribution plan, the amount of contributions to a SIMPLE-IRA is added to elective deferrals made to the other plan. For example, if an employee contributes $5,000 to a SIMPLE-IRA and $4,000 to another plan, elective deferrals total $9,000. For 2003, the authorized amount of elective deferrals to all defined-contribution plans is $12,000. The following table shows authorized increases in amounts for elective deferrals to defined-contribution plans over the next several years. The table also shows catch-up amounts for persons age 50 or older:

As an employer, you may elect to make matching contributions to employees' (or yours) SIMPLE-IRAs of as much as 3% of employee compensation. Instead of making matching contributions, you may decide to make non-elective contributions. Non-elective contributions are equal to 2% of an employee's compensation and are made whether or not the employee contributes to his SIMPLE-IRA.

You can take a tax deduction for most of your contributions. Deductions may be restricted in some cases. For more information, see IRS Pub. 560. The limit on employee compensation for purposes of calculating contributions for 2003 is $200,000.

SIMPLE-IRAs allow employees to contribute to their own accounts, as well as allow you to contribute to yours. In addition to the advantage of the tax deduction you receive on the amount of contributions, employees vest immediately with SIMPLE-IRAs. You need to weigh these advantages with the disadvantage of being able to contribute less to retirement accounts than is allowed with SEP-IRAs.

The above information is educational and should not be interpreted as financial advice.