A Brief Introduction to SIMPLE IRAs
A simplified employee retirement account, or SIMPLE IRA, is a type of individual retirement account (IRA) that is sponsored by an employer and allows both the company and the employee to make contributions to the individual IRAs that are formed for each employee under the plan. These plans are often accessible to companies of a certain size that have fewer than one hundred employees.3
A SIMPLE IRA can be thought of as a hybrid between a standard IRA and a 401(k) plan in terms of its functionality. Your employer is required to make payments to a SIMPLE IRA on your behalf. You will benefit from these contributions. Either the contribution must be a match of up to 3 percent of your total salary (with no upper limit on the total compensation), or it must be a non-elective contribution for all employees who are qualified for it. In this particular scenario, it could amount to 2% of your total income, up to the annual compensation ceiling of $305,000 in 2021 ($290,000 in 2021).4
In addition, if you are an employee, you have the option of contributing to a SIMPLE IRA by deducting money from your paycheck. If you are under the age of 50 in 2021, you will be able to contribute a maximum of $13,500 from their earnings to a SIMPLE IRA. This limit will increase to $14,000 in 2022. If you are at least 50 years old, you are eligible to give an additional $3,000.5
Your contributions to the plan are always fully vested in the amount that you make. This ensures that you will continue to hold ownership of them at all times.
Both the employer and the employee can take a tax deduction for their contributions to a SIMPLE IRA. Employee contributions can also be excluded from gross income.6
Rolling Over Your IRA Can Help You Save Money on Taxes
When you pull money out of your SIMPLE IRA plan, you are typically responsible for paying income tax on that money. If you take withdrawals from your retirement account before you become 59 and a half years old, you will be required to pay an additional 10% penalty unless you qualify for one of the exceptions, such as having a disability or receiving the withdrawal as an annuity.2
If you transfer the funds from your SIMPLE IRA into a 401(k) when you leave your job, you won’t have to worry about any of these potential financial setbacks. When the rollover is done at the appropriate time, it is not regarded to be a withdrawal, and so your age is not a consideration in this scenario either.
Instructions for the SIMPLE IRA Transfers to 401(k) Plans (Rollovers)
The assets in your SIMPLE IRA can easily be transferred over to a 401(k) account. However, you must ensure that the rollover is completed in accordance with the conditions of your SIMPLE IRA plan as well as the requirements of the IRS in order for the rollover to be exempt from both taxes and penalties.
After a period of two years has passed, you will be eligible to make a tax-free rollover from a SIMPLE IRA to a 401(k) plan. It is not the day that you left your company that triggers the beginning of the clock; rather, it is the date that you initially participated in the plan.
If you do not adhere to the two-year rule, you will be subject to financial penalties in the form of taxes. If you roll over your SIMPLE assets into a 401(k) plan within the two-year term, the amount will be considered a withdrawal, even though it did not occur within that time period. You are required to report the withdrawal as part of your taxable income for the aforementioned year.
You run the risk of being responsible for an enhanced age-related penalty as well. If you roll over your SIMPLE IRA within the two-year term, you would be subject to a 25% penalty as opposed to the 10% penalty that you would pay if you were younger than 5912 years old, unless you qualify for an exception. Altering one’s employment status is not, in and of itself, regarded an exception. If the amount you withdraw from your health insurance plan during your period of unemployment is less than the amount that you pay for health insurance during that time, you may be eligible for an exception to this rule.2
To be eligible for a tax-free rollover from a SIMPLE IRA to a 401(k), your SIMPLE IRA needs to have been open for at least two years from the date you first participated in the plan.
Transfers from One SIMPLE IRA to Another SIMPLE IRA (Rollovers)
If you are unable to wait the required two years, you may be able to carry out a tax-free rollover by transferring the assets from your SIMPLE IRA into another SIMPLE IRA. During the two-year term or after it has passed, you are allowed to transfer any amount from one SIMPLE IRA to another SIMPLE IRA in order to avoid paying taxes on the transfer. This is known as a tax-free trustee-to-trustee transfer. The Internal Revenue Service will not make you wait two years before allowing you to make this kind of transfer.2
You are only allowed to complete one rollover from one IRA to another throughout a period of 12 months. As a result, if you have already conducted one rollover within this timeframe, you will be required to wait until the following year to complete another rollover from your SIMPLE IRA P LE k.
IRA-SIMPLE for short Transfers to an existing Roth IRA
Rollovers to Roth IRAs are also subject to the two-year requirement, but there is one important kink: the rollover won’t be tax-free. When you file your tax return for a given year, you are required to include in your income any component of the plan that represents income to you that has not been taxed.2
The Crux of the Matter
Rolling over assets from a SIMPLE IRA into a 401(k) plan is permissible under the law; however, the date the rollover is completed will determine how the transaction will be taxed. If you wish to avoid paying taxes on the rollover into a 401(k), you must wait two years from the date you first participated in the plan before carrying it out. Alternately, you have the option of moving the assets into a different SIMPLE IRA at any time.