Volume 37, Issue 7, July 2002

Keep it Simple
        SIMPLE Retirement Plan for Small Businesses

By Clark Mangan

Compared to regular 401(k) plans, Savings Incentive Match Plan for Employees (SIMPLE) plans have more reasonable start-up expenses and less restrictive compliance requirements than other retirement plans. These advantages make it practical for certain small employers to introduce a retirement plan for their employees, although it will not be as flexible as a regular 401(k) plan. Following is a summary of the benefits and disadvantages of starting a SIMPLE plan:

To be eligible for a SIMPLE plan, an employer can't have another retirement plan and can't have more than 100 employees who earned at least $5,000 compensation in the previous year. For eligibility, employees need at least $5,000 in compensation from the employer in any two past years, plus they must be expected to earn at least $5,000 during the current year. Self-employed individuals are also eligible.


An employer can choose to set up the SIMPLE plan as a 401(k) salary deferral plan or as an IRA for each employee. With an IRA SIMPLE plan, the maximum annual employee contribution is $7,000 adjusted annually for inflation (This number increased from $6,500 in the beginning of 2002. The amount then increases $1,000 each tax year thereafter until it reaches $10,000 in 2005). The employer has two tax-deductible matching alternatives:

1.      Generally, the employer must match 100 percent of employee contributions up to 3 percent of each individual's compensation. (The employer may also elect a lower match that is no less than 1 percent of employee elective contributions. But this lower match option can be used in only two out of any five years.)

2.      The employer can contribute 2 percent of compensation on behalf of each eligible employee even if an employee makes no elective contributions. Employees' elective contributions are income-tax deferred.

401(k) SIMPLE Plan

A 401(k) SIMPLE plan allows employees to make tax-deferred contributions, up to an annual maximum of $6,000. The employer, in general, must match 100 percent of employee elective contributions up to  percent. Alternatively, the employer must automatically contribute 2 percent of pay for each eligible employee.

Employers frequently report they do not offer a retirement plan because of the testing and administrative difficulties involved. Some of those difficulties disappear with a SIMPLE plan. Following are some additional advantages:

        Doesn't have the special nondiscrimination tests for 401(k) plans--annual deferral percentage and annual contribution percentage--or the top-heavy rules;

        Has less complicated reporting requirements than for a standard 401(k) plan;

        Does not require the employer to monitor vesting requirements and company participation;

        Gives companies whose employment rises over the 100-employee limit a two-year grace period to change plans.

A SIMPLE plan also has a downside due to the following:

        Mandatory ongoing cost. A SIMPLE plan requires the employer to make contributions;

        Annual limits on employee deferrals that are lower than standard 401(k) plans ($6,000 instead of a 401(k)'s $9,500 for 1997);

        Immediate 100 percent vesting requirement in all company contributions for qualified employees, regardless of the length of employment;

        An early withdrawal penalty of 25 percent instead of a 401(k)'s usual 10 percent;

        Restrictions on introducing another retirement plan while the SIMPLE plan is in effect.

Consider your Business

The ease of set-up and lower compliance demands make a SIMPLE plan appealing. But whether or not a SIMPLE plan would be a good move for your business is a decision that must be based on your specific circumstances and needs.



Clark Mangan is a financial advisor with the Mangan, Ernst & Rankin Wealth Management Group of First Union Securities in Marlton, N.J.



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