Types of Retirement Accounts: SIMPLE IRA

Retirement. It’s something that most of us don’t think we need to worry about until we get older. Retirement is also something that most of us don’t think we can worry about right now. After all, we have student loans, expensive healthcare costs, rising housing prices, kid’s college, aging parents, and a host of other financial worries that usually push the idea of retirement to the back of our mind. Additionally, retirement can be overwhelming. Most people have no idea what to invest in, how the investing process works, what tax implications our decisions may have, and most of all; how much money do you need to retire. 

While all of these questions will be answered in future articles, this article will start on the ground floor with the question: What are the different types of retirement plans? There are several different types of retirement plans and in this article, we will be addressing #5: SIMPLE IRAs. These articles will give you an idea of what to look for when deciding on how to save for retirement and what type(s) of retirement accounts to save in.

Types of Retirement Plans

1. Traditional IRA
2. Roth IRA
3. 401(k)
4. 403(b)
5. SIMPLE IRA Plan (this article)
6. Simplified Employee Pension (SEP)
7. Salary Reduction Simplified Employee Pension Plan (SARSEP)
8. Payroll Deduction IRA
9. Profit-Sharing Plan
10. Defined Benefit Plan
11. Money Purchase Plan
12. Employee Stock Ownership Plan (ESOP)
13. Thrift Savings Plan (TSP)
14. 457 Plan

IMPORTANT: READ THIS BEFORE CONTINUING

Before we get into the types of retirement accounts, it is important to make one key distinction. A retirement account, itself, is not an investment. If you say something to the extent of, “My 401(k) hasn’t done very well this past year and I’m thinking of picking a different one” you would be making an incorrect statement.

Think of it like this: There are 14 different types of retirement accounts (we will discuss the other 13 in different articles). Each one of those retirement accounts should be thought of as a cooking pot. If you cook something in that pot and you don’t like what it tastes like, you don’t dump the contents into another pot and hope that it tastes better. You change the ingredients of that pot to something else. Now think of the ingredients as different investment products (stocks, bonds, cash, mutual funds, and/or a host of other products/ingredients).To get the taste you want, you change the ingredients, not the pot. You may be wondering, what ingredients do I put into my pot? That is a fair question, but you cannot answer that question until you figure out what pot is best for you. Now buckle up and find out what the 14 different types of retirement accounts (pots) you have at your disposal.

Credit: Nicholas Gras: https://unsplash.com/@armgd

(5) Savings Incentive Match Plan for Employees Individual Retirement Arrangement (SIMPLE IRA)

An IRA (often referred to as a traditional IRA) is the most basic form of retirement account and I explain how it works here. A SIMPLE IRA is sort of a kissing cousin to the IRA. A SIMPLE IRA is still money that has been put into an account to be used for one’s retirement savings. IRAs are typically used for people to roll their existing employer-sponsored retirement accounts (we will discuss those later) into. SIMPLE IRAs are not typically used to roll a preexisting retirement account into, but it can be done if necessary. Bottom line: a SIMPLE IRA is where you can put money for retirement. Think of a SIMPLE IRA (or any retirement account for that matter) as a root cellar. You grow your vegetables in the garden, can them, and then put them in the root cellar until you need them later.

The biggest characteristic that a SIMPLE IRA has is that it is for small businesses. Typically a business of 100 or less employees will offer a SIMPLE IRA rather than a 401(k). There are several reasons for this that we will get into later but the largest is cost. Typically, if a business wants to set up a retirement program for its employees (as long as there are 100 or less), it can set up a 401(k) for a cost of about $10,000 per year or a SIMPLE IRA for about $500 per year. 

SIMPLE IRA stands for Savings Incentive Match Plan for Employees Individual Retirement Arrangement. It’s a really fancy way of saying that it is a retirement plan for small businesses that have less than 100 employees.

Within a SIMPLE IRA you can have many different investments such as:

1. Stocks
2. Bonds
3. Mutual funds
4. Unit investment trusts
5. Government securities (Treasury bills, treasury notes, and treasury bonds)
6. US government-issued gold and silver coins. 

If you don’t know what all of these different terms mean, that is perfectly fine. Just know that you can have nearly all investment within a SIMPLE IRA.

But, there are a few items that cannot be in a SIMPLE IRA. SIMPLE IRAs cannot have:

1. Antiques
2. Gems
3. Rare coins
4. Works of art
5. Life insurance contracts: This is because life insurance contracts are not securities (investments).
6. Municipal bonds: This is because putting a municipal bond in an IRA would negate the tax free status of the municipal bond.

Antiques, gems, rare coins, and works of art cannot be included in SIMPLE IRAs because these items do not have a solid market value. Meaning: I might be willing to pay $50,000 for a painting, but you may be willing to only pay $3,000 for the same painting. It is too difficult to find an agreeable market value.

There are some stipulations to having an IRA that are important to know.

1. Contribution Limits (as of 2021): You can contribute up to $13,500/year unless you are 50 years old or older, at which time you can contribute $16,500/year. This is known as the “catch-up” contribution. It is meant to help people who are a little bit older put more money in their retirement account because they have less time before retirement. The catch-up contribution can start to be made the year that you turn 50. So if your birthday is in September, you can contribute the full $16,500 starting in January of that year even though you are only 49.

Age	Maximum Contribution
Less than 50	$13,500
50 (the year you turn 50)	$16,500
Older than 50	$16,500

The other contribution limitation is based on your earned income from the company that offers the SIMPLE IRA. If you work for a company that offers a SIMPLE IRA and you have a second job that offers another retirement account (such as a 401(k)), you can contribute a maximum of $19,500 in totality between the two accounts.

You may have noticed that the contribution limits or the SIMPLE IRA are lower than some other retirement accounts. This is considered to be the biggest drawback of the SIMPLE IRA.

2. Early Withdrawal (as of 2021): You should never take money out of a SIMPLE IRA until you are at least 59 ½. This is the most important consideration of a SIMPLE IRA (and any retirement account for that matter). This money is not there for you to buy a boat or go on a vacation, it is to retire with. If you take money out of a SIMPLE IRA before age 59 ½ you will pay taxes and a penalty of 10%. For example, if you are single and make $50,000/year and want to withdraw $10,000 from a SIMPLE IRA, you will be taxed 22% ($2,200) + 10% penalty ($1,000). You will only come home with $6,800 (even though you withdrew $10,000) after taxes and the penalty. However, there are a few exceptions to the early withdrawal rule.

1. Death: Your heirs can take the money, not you, you’re dead.
2. Disability: If you become permanently disabled, you can withdraw from your SIMPLE IRA without penalty (although you will still have to pay the appropriate taxes).
3. Home purchase: You can withdraw up to $10,000 from a SIMPLE IRA for the purchase of your first home (primary residence) without penalty (although you will still have to pay the appropriate taxes).
4. Higher education expenses: This would be paying for college, community college, or technical school for yourself, your spouse, your child, or grandchild. 
5. Medial premiums during unemployment: You can withdraw the amount of health insurance premiums during the time that you are unemployed without penalty (although you will still have to pay the appropriate taxes.)
6. Unreimbursed medical expenses: You can withdraw the amount needed to pay any medical expenses that have not (and likely will not) be reimbursed by another party without penalty. But once again, you will still have to pay taxes on this amount. (There are limitations to this that you can find here.
7. IRS Levy: If you have fallen behind on your taxes, you can withdraw out of your SIMPLE IRA without penalty to repay the IRS.

Also, it is important to note that with all retirement accounts if you decide to withdraw money out of the account prematurely you will be penalized 10%. However, if you withdraw money out of a SIMPLE IRA within two years of putting the money into the SIMPLE IRA you will be penalized 25% (on top of your tax rate). Ouch.

3. Required Minimum Distributions (as of 2021): You will have to start taking the money out when you turn 70 ½. This is called a Required Minimum Distribution (or RMD for short). The amount that you have to take out each year starting at 70 ½ (or more precisely, by April 1st of the year following the year you reach 70 ½) is outside the scope of this article. Just know that when you turn 70 ½, even if you don’t need the money, you will be required to take out some of it each year. To find out the exact amount, talk to your CPA or a financial advisor and they would be happy to help.

4. Company Match: This is the best part of a SIMPLE IRA. If you have a SIMPLE IRA offered to you at your job, the company is required to match at least 3% of what you put into it or a nonelective 2% company match. This means that the company can agree to match 3% of every employee who participated in the SIMPLE IRA. Or if the company doesn’t want to do that they will simply give everyone who works at the company 2% of their annual salary into a SIMPLE IRA regardless of whether the employee contributes or not.

5. Vesting Schedule: This is probably the second best part of a SIMPLE IRA. With a SIMPLE IRA the employee is automatically 100% vested. Let me explain what the word “vesting” means. If a company (not you, but the company) puts money into a retirement account for you (as in a company match) you may be on something like a 5-year vesting schedule. So that means that if the company gave you $1,000 into your retirement account, after one year you would get to keep $200 of that if you were to leave. After two years you would get to keep $400, and so on. With a SIMPLE IRA, you are completely vested from day one. That means that you would get to keep the entire amount of the company match. Here is a chart to better explain it.

Year	Company Matched Amount	401(k), 403(b), etc. Amount You Keep	SIMPLE IRA Amount You Keep
1	$1,000	$200	$1,000
2	$1,000	$400	$1,000
3	$1,000	$600	$1,000
4	$1,000	$800	$1,000
5	$1,000	$1,000	$1,000

The big points to remember with a SIMPLE IRA are that:

1. They are for small companies (typically 100 or fewer employees).
2. They are not very expensive for the company to set up.
3. They have a lower maximum contribution limit than most other retirement accounts.
4. If you take money out of your SIMPLE IRA before reaching 59 1/2 AND within two years of when you put it in the account, you will be charged your tax rate PLUS a 25% penalty.
5. They have a mandatory 3% company match or a 2% non-elective contribution.
6. The employee is automatically 100% vested.

A SIMPLE IRA can be a very useful tool in building wealth for your future and retirement. If you work for a small company and they offer one, take advantage of it at least up to the match. And if you are the owner of a small business and you are wanting to start some sort of retirement account for your employees in order to attract better candidates, do a SIMPLE IRA! It is cheap to start (even with the match) and it will be beneficial to your employees.

I hope this article has helped to make you a little more fiscally fit. Remember to keep learning, keep growing, and keep flexing that Money Muscle! Until next time.