Outgrown a SIMPLE-IRA? Suggest Switching to a Safe Harbor 401(k) and Amp up Contributions
In September or October, it’s time to start considering whether your SIMPLE-IRA clients should switch from a SIMPLE-IRA to a Safe Harbor 401(k) for the next year.
Most sponsors and advisors understand that you can’t switch from a SIMPLE-IRA to a Safe Harbor 401(k) mid-year because (a) a SIMPLE-IRA must be sponsored for the entire calendar year, and (b) no other retirement plan can be sponsored in the same calendar year as a SIMPLE-IRA.
However, in order to switch to a 401(k) plan in the next plan year, guidance from the IRS on terminating SIMPLE-IRAs states that the plan sponsor must distribute a notice to employees by November 2 of the current plan year that explains that the SIMPLE-IRA will be discontinued effective January 1, 2019.
Increasing retirement contributions
For those successful small business owners who want to save more than $12,500 a year, as allowed by the SIMPLE IRA ($15,500 if the owner is age 50 plus), a 401(k) plan’s higher deferral rates ($18,500/$24,500) generally outweigh the modest administrative fees associated with a 401(k) plan.
Consider a company currently sponsoring a SIMPLE-IRA with a 3% match. The participants are the owner and spouse, each age 50, and three non-owner employees. With the SIMPLE-IRA, they could defer a combined total of $31,000. If they switched to a 401(k) plan with a Safe Harbor match capped at 4%, for that extra 1% of match they could defer a combined total of $49,000 – this increases by more than 50% the amount they could save annually. By the time they reach age 65, they potentially could save an additional $255,000 compared to continuing with the SIMPLE-IRA (this is without considering future cost of living increases to the deferral limits or investment gain on the increased amount).
So, if your client currently sponsors a SIMPLE-IRA, but is looking to increase contributions, it’s important to review your clients Safe Harbor 401(k) options now so they can make a decision before November 2.