SIMPLE Retirement Plan: 401(k) Version

SIMPLE 401(k) Retirement Plan defined

A new subset of the 401(k) plan is the SIMPLE 401(k) Retirement Plan. SIMPLE 401(k) Retirement Plan is a retirement plan sponsored by employers. Just like the SIMPLE IRA plan, this is a retirement plan that is very much attractive for small business owner with 100 or fewer employees because it avoids some of the administrative fees and paper work which are common on all retirement plans. Employers benefit from the tax-deductible contributions made to the plan, and employees may elect to have salary deferrals in order to contribute to the retirement plan. The employer has the option of matching a certain portion of the employee’s deferrals or making non-elective contributions to all eligible employees (an annual limit applies in both cases). A minimum compensation eligibility requirement exists for employees who want to join this retirement plan, and employees cannot establish any other qualified retirement plans at the same time.

Why would one choose a SIMPLE 401(k) retirement plan instead of a SIMPLE IRA or regular 401(k) retirement plan? The fact is the SIMPLE 401(k) retirement plan is a cross between a SIMPLE IRA and traditional 401(k) retirement plan and offers the best of both plans - for the most part. Following are some review of the features and benefits of the SIMPLE 401(k) plan and compare it to the traditional 401(k) plan.

Advantages

• There is no testing under this type of retirement plan. An employer that adopts a traditional 401(k) retirement plan may be required to perform certain non-discrimination and top-heavy testing to ensure that the plan operates in compliance with regulatory requirements. Generally, such testing must be done by professionals who specialize in that area and can be quite costly. SIMPLE 401(k) retirement plans, on the other hand, do not require these tests. That is why this is very attractive to small business owner with 100 or fewer employees and who likes the features of the 401(k) retirement plans, but can't afford the administration costs of testing.
• Also loans are allowed and this can be an attractive feature of a qualified plan because employees and business owners usually like the idea of being able to borrow their own funds and make loan and interest payments to their own accounts. The loan feature can be made available in both SIMPLE and traditional 401(k) retirement plans.

Disadvantages

• There is an immediate vesting of contributions. With a traditional 401(k), employer contributions can be subject to a vesting schedule, and this may help to reduce high employee turnover. But contributions to a SIMPLE 401(k) retirement plan are immediately 100% vested, which means that an employee who meets the requirements to receive distributions from the plan may withdraw his/her entire account balance at any time.
  
• Also, contribution limits for a SIMPLE 401(k) retirement plan are much lower than the limits for the traditional 401(k) retirement plan. For instance, the salary deferral limits of both plans are as follows:

Year	SIMPLE Deferral Limit	Traditional 401(k) Deferral Limit
2002	$7,000	$11,000
2003	$8,000	$12,000
2004	$9,000	$13,000
2005	$10,000	$14,000
2006	$10,000	$15,000
2007	$10,500	$15,500

Furthermore, employer contributions to an employee's SIMPLE 401(k) retirement plan account are limited to 3% of the employee's compensation, while for the traditional 401(k) retirement plan; the employer may contribute up to 25% of the employee's compensation. Also, the compensation limit applies to both plans, which means the employer cannot consider compensation in excess of $220,000 for 2006 ($225,000 for 2007) (indexed) for plan purposes. Therefore, an employee's total contribution to a SIMPLE 401(k) retirement plan for 2007 can be as much as $17,250 (salary deferral of $10,500 + 3% contribution of maximum salary of $225,000) + catch-up contributions, while contributions to a traditional 401(k) retirement plan can be as much as $45,000 + catch-up contributions.

• An employer who establishes a SIMPLE 401(k) retirement plan cannot maintain any other plan for employees who are eligible to participate in the SIMPLE 401(k) retirement plan. By contrast, provided certain requirements are met, an employer who establishes a traditional 401(k) retirement plan may choose to establish a SEP, profit-sharing or other defined-contribution plan, maintain both plans concurrently and allow eligible employees to participate in both plans.

SIMPLE 401(k) Retirement Plan Eligibility Requirements for Employer and Employee

• The SIMPLE 401(k) retirement plan is available to those same employers who are eligible to adopt a traditional 401(k) retirement plan: this includes sole proprietors, partnerships and corporations. However, while there is no restriction on the number of employees for the traditional 401(k) retirement plan, only employers who adhere to the 100-employee limit can adopt a SIMPLE 401(k) retirement plan. Under the 100-employee limitation rule, a SIMPLE may be established by an employer that had no more than 100 employees who received at least $5,000 in compensation for the preceding year.
  
• Employees who are at least 21 years old and have completed at least one year of service must be allowed to participate in the SIMPLE 401(k) retirement plan.

Annual Notice Requirements
Employer must provide a deferral notice to each eligible employee for the year the plan is established and for each year the employer continues to maintain the plan. Generally, the notification must be provided at least 60 days before the employee would be eligible to participate in the plan. This notification must include a statement of the employee's right to make salary-deferral contributions to the plan and to terminate his or her participation in the plan.

Also, an employer is required to provide employees with an explanation of the plan’s features and benefits prior to the effective date of the plan.

Deadline to Establish SIMPLE 401(k) Retirement Plan
A SIMPLE 401(k) retirement plan must be established between Jan. 1 and Oct. 1. An exception applies to businesses that come into existence after Oct. 1. For these businesses, the plan can be established as soon as administratively feasible.

Conclusion
We have reviewed some of the highlights of the SIMPLE 401(k) retirement plan. As you can see, the SIMPLE 401(k) retirement plan boasts some attractive features, but it also has some disadvantages when compared with other retirement plans. If you think SIMPLE 401(k) retirement plan might be suitable for your business, be sure to consider the pros and cons.

Thank you for visiting.

Sources:

http://www.investopedia.com

http://www.investorwords.com