Why Are Roth IRAs Better Than Traditional IRAs? What Is the Difference Between a SEP and Simple IRA?
Retirement Plans
IRAs
For 2020, IRA contributions are allowed up to the lesser of:
1) $6,000 ($7,000 if age 50 or older) or
2) 100% of the individual’s compensation.
Compensation includes wages, salaries, other amounts derived from or received for personal services actually rendered (including self-employment income) and alimony.
For married individuals filing a joint return, IRA contributions can be made for each spouse if the combined compensation of both spouses is at least equal to the contributed amount.
Accessing Retirement Funds Before Age 59½
Retirement plan distributions received before age 59½ are subject to a 10% penalty tax (25% for some SIMPLE IRA distributions). However, the following distributions are generally not subject to the penalty (but are subject to income tax):
- Because of disability or following death.
- From an employer retirement plan (not an IRA) after separation from service and in or after the year the taxpayer reaches age 55.
- Made as part of a series of substantially equal periodic payments.
- To pay unreimbursed medical expenses that exceed 7.5 of adjusted gross income (AGI).
- To pay medical insurance when unemployed (IRAs only).
- To pay higher education (college) costs (IRAs only).
- To pay up to $10,000 of first-time home expenses (IRAs only).
Small Business Retirement Plans
For small business, SEPs and SIMPLE IRAs are two of the most popular retirement plan options.
SEP. A simplified employee pension (SEP) plan is a written arrangement that allows an employer to make contributions to IRAs established by or on behalf of each qualifying employee.
SIMPLE IRA. A savings incentive match plan for employees (SIMPLE) IRA is a written salary reduction arrangement under which an eligible employee may elect to have the employer contribute part of each paycheck to an IRA (referred to as a SIMPLE IRA). An employer that establishes a SIMPLE IRA must make either matching or nonelective contributions.
Tax Credit For Start-up Expenses
- A nonrefundable credit of up to $500 per year is available for the administrative and retirement-education expenses of adopting a new qualified defined-benefit or defined-contribution plan, or a SIMPLE IRA or SEP.
- The credit applies to 50% of the first $1,000 of qualified expenses for each of the first three years of the plan.
- A small employer is one that did not employ, in the preceding year, more than 100 employees with compensation of at least $5,000. Additionally, the plan must cover at least one non highly compensated employee.
SEPs vs. SIMPLE IRAs
- Employers can choose less, but not more, restrictive requirements.
- For self-employed person, 20% of net self-employment income.