SIMPLE Plans

The SIMPLE plan (short for “Savings Incentive Match Plan for Employees”) is a retirement savings option designed to help employees of small employers to save for retirement on a tax-favored basis. This letter explains the basic features of a SIMPLE plan and why it may be of interest to you as a small business owner.

What is a SIMPLE Plan and What Are Its Advantages?

As its name implies, a SIMPLE plan is a type of simplified retirement plan. A SIMPLE plan is not subject to the complex qualification requirements associated with tax-qualified retirement plans, thus administrative and legal costs are lower.

From an employer’s standpoint, key advantages of SIMPLE plans include simplified reporting requirements. In addition, the employer (and any other plan fiduciary) will not be subject to fiduciary liability resulting from the employee or the employee’s beneficiary exercising control (direction) over the assets in his or her SIMPLE account.

Who Can Adopt a Simple Plan?

Your business is eligible to adopt a SIMPLE plan if it employs 100 or fewer employees who earned at least $5,000 in compensation for the preceding year and the business does not maintain another employer-sponsored retirement plan. If your business is eligible to establish a SIMPLE plan but later becomes ineligible, your company will have a two-year grace period during which it may continue to maintain the plan.

How do SIMPLE Plans Work?

A SIMPLE plan allows employees to make elective contributions to an individual retirement account (IRA). Contributions are based on a percentage of employee compensation and cannot exceed a certain amount per year ($12,500 for 2017). Your business would have to satisfy one of two contribution formulas:

• Under the matching contribution formula, your company may match employee contributions dollar-for-dollar up to 3% of each participating employee’s A special rule allows you to elect a lower percentage matching contribution for all employees (but not less than 1% of each employee’s compensation). However, you cannot elect to use a lower percentage for more than two out of any five years.

(2) Instead of making matching contributions, your company may make a 2% contribution on behalf of each eligible employee who earns at least $5,000 in compensation for the year.

For 2017, no more than $270,000 of an employee’s compensation may be taken into account in any year under the plan’s contribution formula.

No contributions may be made to a SIMPLE plan other than employee elective contributions and required employer matching contributions (or, if option (2), above, is elected, required employer contributions).

Who is Eligible to Participate in a SIMPLE Plan?

Generally, any employee who received at least $5,000 in compensation from your company during any two prior years and who is expected to receive at least $5,000 in compensation from it during the current year must be eligible to participate in the SIMPLE plan. Self-employed individuals also can participate. All contributions to an employee’s SIMPLE account are vested.

How are Contributions to a SIMPLE Plan Taxed?

Within limits, your contributions to an employee’s SIMPLE account generally are deductible. To be deductible, matching contributions must be made by the due date (including extensions) for your company’s federal income tax return. Contributions to a SIMPLE account are excludible from employee income, and the assets of a SIMPLE account, like those of a qualified retirement plan, grow tax free.

How are Distributions from a SIMPLE Plan Taxed?

Distributions from a SIMPLE plan generally are taxed under the rules applicable to IRAs, and tax-free rollovers can be made from one SIMPLE account to another. A SIMPLE account may be rolled over into an IRA on a tax-free basis after a two-year period has expired since the individual first became a participant in the SIMPLE plan. The employee’s SIMPLE account is treated as an IRA if an employee is no longer participating in a SIMPLE plan (e.g., the employee has terminated employment) and two years have passed since the employee first participated in the SIMPLE plan.

Do Early Withdrawal Penalties Apply to SIMPLE Plans?

Yes. Early withdrawals by an employee from his or her SIMPLE account generally are subject to the I 0% early withdrawal penalty tax applicable to IRAs. However, the penalty tax increases to 25% if the participant makes a withdrawal during the first two years of participation.

Are Employer Contributions to a SIMPLE Plan Subject to Employment Taxes?

No. Neither employer matching nor nonelective contributions to a SIMPLE account are subject to employment taxes when made.

What Rules Apply to Employee Elections to Contribute to a SIMPLE Plan?

An eligible employee can elect, within the 60-day period before the beginning of any year (or the 60- day period before first becoming eligible to participate), to participate in the employer’s SIMPLE plan and to modify any previous elections regarding the amount of contributions. The employer is required to contribute employee elective deferrals to the employees’ SIMPLE accounts within 30 days after the end of the month to which the contributions relate. Employees may terminate participation in the plan at any time during the year. A SIMPLE plan may provide that an employee who terminates participation cannot resume participation until the following year. A SIMPLE plan can permit an individual to make other changes to his or her salary reduction contribution election during the year. Your company may designate a SIMPLE account trustee to receive contributions on behalf of employees.

Can SIMPLE Plans Operate in 401(k) Plan Form?

Yes. Generally, a §40!(k) plan is considered to satisfy the special nondiscrimination tests applicable to employee deferrals and employer matching contributions if the plan satisfies the contribution requirements applicable to SIMPLE plans. For a §40l(k) plan to qualify under the SIMPLE plan rules, the employer cannot maintain another qualified retirement plan for the year.

ANY TAX ADVICE IN THIS COMMUNICATION IS NOT INTENDED OR WRITTEN BY GARCIA & CUADRA, P.A. TO BE USED, AND CANNOT BE USED, BY A CLIENT OR ANY OTHER PERSON OR ENTITY FOR THE PURPOSE OF (i) AVOIDING PENALTIES THAT MAY BE IMPOSED ON ANY TAXPAYER OR (ii) PROMOTING, MARKETING OR RECOMMENDING  TO ANOTHER PARTY ANY MATTERS ADDRESSED HEREIN.