What Is a SIMPLE IRA Plan and How Does It Work?

A Savings Incentive Match Plan for Employees (SIMPLE IRA) is a cost-effective, easy-to-manage retirement plan that employers can offer to their employees. This plan gets invested in a similar manner to traditional individual retirement arrangements (IRAs), allowing employees to save with pre-tax dollars, enjoy tax-deferred growth, and provides businesses with lower taxes and a competitive edge in attracting talent.

Key Attributes of a SIMPLE IRA

A SIMPLE IRA is built for smaller employers. This plan allows them to avoid the more complex structure and regulations found within traditional retirement plans while offering their employees a sought-after benefit. Other characteristics of this plan include:

• Available to employers with 100 or fewer employees
• Employers must contribute to individual accounts set up for each eligible employee
• Employees may defer a part of their salaries into the plan for retirement
• Employers and employees can both make contributions
• Employer and employee contributions are always 100% vested

Is a SIMPLE IRA the Same as a Traditional IRA?

There are similarities between a SIMPLE IRA and a traditional IRA. For instance, a SIMPLE IRA follows the same investment, distribution, and rollover rules as traditional IRAs. However, key differences include contribution limits for each plan and who can open an account.

See the Table Below To Compare SIMPLE IRAs vs. Traditional IRAs

How Does a SIMPLE IRA Work?

With a SIMPLE IRA, you and your employees can put a set percentage of pay aside for retirement. The money grows tax-deferred until it's withdrawn.

How SIMPLE IRAs Maximize Benefits for Your Business

SIMPLE IRAs don't just benefit your employees; they help you as a business owner. These plans are much less complicated to set up and administer, have fewer rules, and cost less than other more traditional retirement plans, like a 401(k) plan. By providing a tax-friendly retirement plan, you can attract and retain top talent, while inspiring greater loyalty and engagement within your team.

You also get to deduct each contribution you make to your employees' SIMPLE IRAs on your taxes. Additionally, under the Setting Every Community Up for Retirement Enhancement (SECURE) Act, businesses may be eligible to receive a tax credit of up to $5,000 per year (for the first 3 years from the plan's inception) to help offset setup and administrative costs of setting up the plan.

If you enroll your employees into the SIMPLE IRA plan automatically, you will be eligible for an additional tax credit of $500. This tax credit is available for 3 years, beginning with the first taxable year you include an auto-enrollment feature, adding to your potential tax savings.

SIMPLE IRA Rules: Contributions and Limits for 2025

Keep in mind the following rules around contribution limits for employees and employers in tax year 2025:

Employee Contribution Limits

Like other retirement plans, there are SIMPLE IRA contribution limits. The SIMPLE IRA max contribution in 2025 allows an employee under age 50 to contribute up to $16,500. People aged 50 and older can make an added $3,500 catch-up contribution, for a total of $20,000, while those ages 60 to 63 have an additional $5,250 catch-up contribution, for a total of $21,750.

However, for employers with 25 or fewer employees, the SECURE Act 2.0 allows employees to increase the deferral limit up to $17,600 for those under 50. For those over 50, the catch-up contribution is increased to $3,850, for a total of $21,450 for these employees.

Employer Contribution Limits

An employer must contribute to a plan and can choose either of the following SIMPLE IRA employer match rules:

• Make a non-elective contribution of at least 2% of compensation for all eligible employees. You may limit these non-elective contributions to eligible employees earning at least $5,000, although you do not have to do so. Maximum compensation is $350,000 for the 2025 tax year. You must make these non-elective contributions for each eligible employee regardless of whether the employee elects salary deferrals for that calendar year.
• Make a matching contribution of 100% up to the first 3% of compensation. Employees only get this matching contribution if they contribute to the plan.
• Allow additional nonelective contributions to SIMPLE IRA plans. Section 116 of the SECURE Act 2.0 allows employers to make additional contributions to their employees “in a uniform manner,” as long as the contribution does not exceed either or up to 10% of compensation or $5,000, whichever is less.

No matter which matching contribution you choose, you may deduct your SIMPLE IRA contributions on your business's tax returns for the year.

Choosing the Right Contribution Strategy for Your Business

When setting up your SIMPLE IRA plan, it's essential to choose the right contribution strategy for your business.

Since employer contributions are mandatory to a SIMPLE IRA plan, you'll choose between making non-elective or matching contributions.

For non-elective contributions, you must set aside the equivalent of 2% of your employees' compensation, regardless of whether your employees contribute to the SIMPLE IRA plan or not. However, you only need to set aside 2% of the first $350,000 the employee earns in 2025. Any employees earning over $350,000 in 2025 may receive a smaller match.

For matching contributions, if you can’t provide the 3% match, you may reduce your match contribution rate to a minimum of 1%, for up to 2 out of every 5 years. You may not drop it below 1%, nor can you drop it below 3%, for more than 2 out of 5 years.

You have until your tax filing deadline to make your contributions. This can help you plan cash flow throughout the year while providing a tax-favorable retirement benefit to your employees.

SIMPLE IRA Rules: Withdrawals and Transfers

Employees who withdraw early from their SIMPLE IRA will generally incur significant penalties from the Internal Revenue Service (IRS). In general, SIMPLE IRA distribution rules mirror traditional IRA rules, except for non-qualified withdrawals within the first 2 years of participation. If an employee has had the SIMPLE IRA for less than 2 years and withdraws money before age 59½, they will be subject to both the standard 10% penalty from the IRS, as well as an extra 15% early withdrawal penalty — totaling 25% of the money taken out going toward penalties owed to the IRS, plus any applicable income taxes. For example, a $10,000 early withdrawal means a minimum of $2,500 will go toward a tax bill.

Transferring or rolling over funds from a SIMPLE IRA or an employer-sponsored retirement plan comes with strict guidelines. If you move your balance to anything other than another SIMPLE IRA within the first 2 years of participating in the plan, the transferred amount will be considered taxable income.

Pros and Cons of SIMPLE IRA Plans

When considering a SIMPLE IRA, it's essential to understand the advantages and drawbacks of this type of plan.

Some notable benefits of setting up a SIMPLE IRA plan for employees include:

• SIMPLE IRA plans are relatively straightforward to establish.
• Just like other employer-sponsored retirement plans, SIMPLE IRAs give employees the option to set aside a portion of their salary on a tax-deferred basis. These contributions are made automatically through easy payroll deductions.
• Employees are immediately 100% vested in all SIMPLE IRA contributions. As opposed to most qualified plans, matching employer contributions belong to employees and travel with them if they leave employment.
• Businesses may be eligible to receive a tax credit of up to $5,000 per year (for the first 3 years from the plan's inception) to help offset the setup and administrative costs of setting up the plan.
• Employers do not have to file Form 5500 as part of the plan's requirements.

There are also some disadvantages to setting up a SIMPLE IRA, some of which include:

• Contribution limits for SIMPLE IRA plans are lower than other workplace retirement plans, such as a 401(k) plan. In 2025, employees, sole proprietors, and self-employed workers under age 50 can contribute $16,500 to a SIMPLE IRA versus $23,500 to a 401(k).
• Businesses must match employee contributions up to a certain percentage. This is in contrast to a retirement plan such as a 401(k), where employer contributions aren't required.
• Employers must follow strict rules set by the IRS, including rules around withdrawals and transfers (see SIMPLE IRA rules section above).

Step-by-Step Guide for Setting Up a SIMPLE IRA Plan

SIMPLE IRAs are known for their ease of plan setup. Most banks and financial institutions provide standardized plans that you can use when setting up your retirement plan, often allowing you only to use one simple form.

If you don't use a standardized plan from your bank or financial institution, you'll follow these steps when setting up a SIMPLE IRA:

• Contribution limits for SIMPLE IRA plans are lower than other workplace retirement plans, such as a 401(k) plan. In 2025, employees, sole proprietors, and self-employed workers under age 50 can contribute $16,500 to a SIMPLE IRA versus $23,500 to a 401(k).
• Businesses must match employee contributions up to a certain percentage. This is in contrast to a retirement plan such as a 401(k), where employer contributions aren't required.
• Employers must follow strict rules set by the IRS, including rules around withdrawals and transfers (see SIMPLE IRA rules section above).

Step-by-Step Guide for Setting Up a SIMPLE IRA Plan

SIMPLE IRAs are easy to set up. Most banks and financial institutions offer standardized plans with a quick, hassle-free form, making it simple to start focusing on your retirement without getting buried in paperwork.

If you choose not to use a standardized plan, you’ll just follow a few straightforward steps:

1. Complete Form 5304-SIMPLE, which allows employees to choose their own bank or financial institution to receive their SIMPLE IRA plan contributions. This is often more convenient for employees. Or, if you prefer, complete Form 5305-SIMPLE, which designates one bank or financial institution for all SIMPLE IRA plan contributions. This is often more convenient for employers.
2. Once completed, keep the original forms with your signature. Do not file these with the IRS.
3. Notify each employee before the beginning of the election period for the SIMPLE IRA (typically the 60-day period before your SIMPLE IRA plan year, which is often January 1st). This notice gives your employees information on the plan before they make their salary reduction choice for the plan year. This notice will also communicate your decision about offering matching or non-elective contributions. If you use Form 5304-SIMPLE or Form 5305-SIMPLE, you can provide copies of these forms to your employees to satisfy this annual notice obligation.
4. Set up an IRA account for each employee at the designated bank or financial institution.

Once your SIMPLE IRA is set up, both you and your employees can contribute pre-tax earnings through automatic payroll deductions. Plus, you have the flexibility to decide how the funds are invested.

Both candidates and current employees value workplaces that offer some type of retirement plan — and the more attractive, the better. That's why offering a SIMPLE IRA plan is an effective way to attract future employees, retain your current workforce, and enjoy the benefits of an easy-to-manage plan.

How To Evaluate SIMPLE IRA Providers

When evaluating SIMPLE IRA plan providers, here are some things to consider when deciding which retirement services work best for you and your employees:

• How difficult is it to set up?
• What are the startup and ongoing administrative fees?
• Is the investment lineup limited in any way? Or can employees have complete discretion in choosing their investments?
• If an investment lineup is provided, does it include reasonably priced investments, or are they higher-cost funds?
• Does the plan provider's SIMPLE IRA integrate with your payroll system?
• What is the process for depositing contributions?

It's critical that your SIMPLE IRA plan provider works with you to help you set up and manage your plan easily.

Common Mistakes To Avoid When Managing SIMPLE IRAs

As easy as SIMPLE IRAs can be, the IRS provides common mistakes you should still avoid when managing your plan.

• If you own more than one business, you may need to include the employees of all businesses in your SIMPLE IRA.
• You may be ineligible to sponsor a SIMPLE IRA plan if your combined number of employees (who earned at least $5,000 in the preceding calendar year) in all your related businesses exceeds 100. You may be able to take advantage of a 2-year grace period if this occurs.
• If eligible employees were mistakenly excluded from the SIMPLE IRA plan, you may need to make extra contributions for them.
• On the other hand, you may have included employees who weren't eligible for the SIMPLE IRA plan. In this case, you'll need to remove these contributions from the plan and inform the employees of the mistake.
• You may also find that you've contributed too much to the plan. You can work with your SIMPLE IRA plan provider or your employee benefits attorney to correct this.