Jun 22, 2011

Simple IRA To 401(k) - Important Facts

There's an important deadline on the horizon if an employer has a SIMPLE IRA plan in 2011 but would like a 401(k) in 2012 - that date is November 1, 2011.

If an employer wants to terminate a SIMPLE IRA plan they may do so prior to the end of the calendar year. However, they must give the employees at least 60 days notice that the SIMPLE IRA plan is being terminated. This is generally done via a corporate board resolution. An employer does not need to give any notice to the IRS that the SIMPLE IRA plan has been terminated. Once the SIMPLE IRA plan is terminated a new 401(k) may be established on January 1, 2012.

An employer cannot maintain a SIMPLE IRA plan and a 401(k) plan in the same calendar year.

So why consider a change from SIMPLE IRA plan to 401(k)? Some key reasons may include:

  • Higher contribution limits for employees 
• Favoring owners and highly compensated employees through specific plan design
  • Not having 100% immediate vesting of employer contributions
  • Increased investment selection
  • Allowing for plan loans

401(k) plans will have additional testing and reporting requirements versus Simple IRAs, making them more expensive to maintain. However, the cost considerations in switching from a Simple IRA plan to a 401(k), with respect to the long term goals of any employer retirement plan benefit program, may be well worth it.

In terminating a SIMPLE IRA plan, employers must notify the financial institution that you they will not make a contribution for the next calendar year and that they may want to terminate the contract or agreement. Likewise, in considering a switch to a 401(k) plan, set-up/plan lead times for vendors offering such a plan typically run from 30-60 days.

In addition, SIMPLE IRA plans are subject to a 25% penalty tax by the IRS if they are pulled out within the first two years of the contract. This two year period starts when a participant makes their first contribution into the SIMPLE IRA account. Once the new 401(k) plan is established, participants that have been in the SIMPLE IRA contract for over 2 years may roll their SIMPLE IRA monies over to the 401(k) if the new 401(k) plan allows for such monies to be rolled into to plan.

Lastly, and most importantly, employers should consult with their Tax Advisor or Financial Advisor prior to considering any of the changes noted above.