Aug. 16, 2002 – Simple IRA: A simple choice for small business retirement plans.
Owning your own business in the Virgin Islands can be a dream come true and a formidable challenge. Unfortunately, the success and freedom of owning a small business frequently comes with great cost. Is a company retirement program part of your benefits package? If the answer is no, one day you may discover that you are unable to retire. Small businesses without a retirement savings plan are common. This retirement planning method generally includes an IRA and Social Security, certainly not enough to maintain one's standard of living after ceasing to work.
There's a perception that the small company lacks the administrative and financial resources to offer a retirement program. Today, there are more choices for small business owners. One of these choices is the Simple IRA.
The Small Business Job Protection Act of 1996 created the Savings Incentive Match Plan for Employees (SIMPLE). Designed for small businesses with less than 100 employees, the Simple IRA offers business owners a retirement plan that is uncomplicated to administer, provides a competitive benefit for valued employees and a much needed tax break. Unlike a 401(k), there is no complicated reporting or testing. Set-up costs and administrative fees are relatively inexpensive and less costly than a 401(k).
A separate Simple IRA account is established for each employee, including the owner. The employer simply sponsors the program and provides contributions. Employees can defer up to $7,000 pre-tax dollars in 2002 to a Simple IRA account. Employers make a tax-deductible contribution. Business owners may benefit from both the pre-tax deferral and company contribution in their own Simple IRA.
Employers have two choices for contributions. Employee contributions can be matched dollar for dollar, up to 3 percent of pay. Employers have the option to lower this match twice within any five-year period. The second option allows employers to contribute 2 percent for each employee, regardless of the employee's contribution.
All employees who have earmed $5,000 in the last two calendar years and are expected to earn $5,000 in the present year are eligible to participate. Simple IRAs must be established by October 1 of the current year. The company cannot offer a Simple IRA with another retirement plan. However, individuals may contribute to their own separate IRAs in addition to their Simple IRAs. When participating in the Simple IRA, the ability to deduct traditional IRA contributions may be affected. Roth IRA contributions can still be made along with a Simple IRA without additional tax implications.
There are no complicated vesting schedules. Employees can withdraw their balances at any time. However, like any tax deferred savings program, Simple IRAs are designed for withdrawal after age 59½. Early withdrawal results in penalties. Penalty in the first two years after the account is opened is 25 percent. All distributions are subject to taxes. Should an employee leave employment, the Simple IRA is already a separate account. It may remain invested, avoiding taxes and penalties, and continue to grow tax deferred. If the account has been open for two years or more, upon leaving employment, it may be rolled into a traditional IRA.
Some aspects of the Simple, when compared to the 401(k), may be viewed as a disadvantage. Unlike the Simple with 100 percent vesting, 401(k) plans can require an employee to work up to seven years before the individual is allowed to withdraw all company contributions. Employers must make an annual contribution to the Simple, but are not required to make contributions to the 401(k). Another possible drawback in the Simple IRA is the contribution limit of $7,000. The 401(k) limits for 2002 allow an individual to defer up to $11,000.
The Simple IRA is one retirement program that every small business owner should explore. Programs can be established at most financial brokerages and mutual fund companies. Set-up fees can be as low as $10 per employee with annual administrative costs ranging from no cost to $600. Take the time to research several plans. Deciding upon a retirement plan for your business is a major decision, but one that will likely prove invaluable for your own future and that of your employees.
Editor's note: Susan J. MacFarland-Helton is a financial consultant and manager of Seslia Securities, Virgin Islands. Susan holds a Series 24 General Principle's license, a Series 7 General Securities Representative license, Series 66, and a V.I. Life & Health Insurance license. Seslia Securities is a Virgin Islands company and a member firm of the NASD.
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