Seize the (tax-advantaged) savings opportunities for you and your team: A guide to the six IRA plans

While consumer spending (outlays) have been on the decline, according to the most recently-available stats from the U.S. Department of Commerce Bureau of Economic Analysis, personal income between November to December has risen slightly. The BEA characterized earnings gains as reflecting “an increase in compensation of employees,” whereas constraints on “outlays” were attributed to “continued restrictions and disruptions on the operations of establishments in some parts of the country.” “Personal income” also spans monies earned in the form of dividends and distributions from investments.


Individual Retirement Arrangements (IRAs) present a “tax-advantaged” way to grow one’s personal wealth. The Internal Revenue Service largely characterizes six plans as “IRAs,” which merit consideration:

  • Traditional IRA

  • Roth IRA

  • Payroll Deduction IRA

  • Simplified Employee Pension

  • Savings Incentive Match Plan for Employees (SIMPLE)

  • Salary Reduction Simplified Employee Pension Plan (SARSEP)


Your trusted partners in managing and growing your personal wealth, O’Donnell, Ficenec, Wills & Ferdig, are happy to provide insights into each of these plans below. If you haven’t done so already, there is no time like the present to seize the opportunities presented by these plans.


Traditional IRA


This plan allows for eligible investors to make fully or partially deductible contributions. Since 2019, total contributions could not be valued at more than $6,000 for those aged 50 and younger ($7K for investors aged 50-plus). Deductions are limited for those investors who are covered by retirement plans, and whose income exceeds certain levels. Be aware that these restrictions also apply to those investors who spouses are covered by retirement plans. Deductions are allowed in full for those who are not enrolled in employee retirement plans. Earnings and gains are largely not taxed until one withdraws (takes a distribution) from his or her IRA. There is also no need to demonstrate hardships to take distributions; however, those aged 59-and-a-half and younger may be subject to a 10% tax for “early distributions.” Exceptions to this rule are outlined here, and include considerable hardships (such as the IRA owner/participant becoming disabled) and qualifying life changes (for instance, qualified first-time home buyers and for qualified public safety employees who “separate from service”).


Roth IRA


The Roth IRA made its debut in 1998 as part of the Taxpayer Relief Act of 1997. Its name refers to late Senator William Victor Roth, Jr. (R-Delaware). Roth was the plan’s legislative sponsor, and his career was largely defined by his fiscal conservatism and efforts to provide tax relief. The Roth is generally subject to many of the same rules that are associated with its counterpart listed above (the “traditional” IRA). However, there are a few differences between the two plans; notably, the “owner” or “participant” cannot deduct contributions to the plan. Distributions that qualify are “tax-free” – as long certain requirements are satisfied. Those owners aged 70-and-a-half and older can make contributions. Furthermore, amounts may be left in the Roth for “as long as you live.” It is important to designate all accounts and annuities as such (a Roth IRA) upon set-up of the plan. Contribution limits noted above apply. Bear in mind that, for 2022, those with modified Adjusted Gross Income (AGI) of up to $204,000 can contribute up to the aforementioned limits (for those who have filed as “married filing jointly” or “qualifying widow(er)”). Limitations on contributions kick in for those filers with MAGIs valued at $204,000 to $214,000. More information on how contributions are affected by filling status and income and contribution limits can be found here.


Payroll Deduction IRA


This IRA plan is established by the owner’s or participant’s employer. Employees can then either set up a traditional or Roth IRA. They must do with a financial institution who, as the name suggests, authorizes a payroll deduction for his or her respective plan. This can be a great opportunity for our clients who own businesses, as this option may be used to “sweeten” the benefits package amid a climate often described as a “war” for top talent. It’s noteworthy that organizations of all sizes can create payroll deduction programs, even those who are “self-employed.” The IRS notes that this option is “probably the simplest retirement arrangement that a business can have.” In fact, no plan documents need to be adopted when setting up this arrangement. The process works when employees sign up for the program and have a specified amount of their paychecks deposited into the IRA to grow their savings. The sponsoring company/employer then reports the amount that each employee made for the year, while the employee accounts for the contribution he or she made (and any other IRA contributions) to calculate the maximum contribution and associated deduction.


SEP

Another opportunity for our business clients to attract and retain top employees, the Simplified Employee Pension plan is set up those employers. As with the payroll deduction alternative mentioned above, you don’t have to be a large business (even the self-employed can participate!) to established this plan. Clients may gravitate toward this option, because it does not have the launch or operating expenses associated with conventional plans to help grow employees’ retirement savings. Additionally, contributions max out at 25% of the employee’s/owner’s earnings. Unlike the payroll deduction, as a pension plan, only qualifying employers can contribute to those SEP IRAs set up for those eligible employees. The employee, in turn, is 100% vested/”owns” all of the money within the plan. Contributions are flexible, which is nice for those organizations within industries that are “highly cyclical,” subject to ongoing ups and downs. An example of the plan “in action” is noted here, under the “How does a SEP work?” section.

SIMPLE IRA

As its name suggests, the Savings Incentive Match Plan for Employees allows for both the employee and the employer to contribute. The employee makes “salary reduction contributions” to traditional IRAs that are set up by the employer. The employer then makes a matching or “nonelective” contribution to the qualifying employee’s plan. It is ideal for small employers. So, there are stipulations that are placed on organizations offering this plan, which is characterized as a “start-up retirement savings plan.” Employers that generally have a workforce of under 100 employees are eligible, as long as they are not actively sponsoring other retirement plans. The matching contribution maxes out at 3% of the employee’s compensation. There is also a 2% “nonelective contribution” governing each qualifying employee. Accordingly, if eligible employees don’t contribute to the SIMPLE IRA, they are still eligible to receive employer contributions of up to 2% of the compensation (the annual compensation limit for 2022 is $305K). Check out these scenarios to see if the SIMPLE IRA resonates with your organization and its goals.

SARSEP

Another “granddaddy” IRA plan, the Salary Reduction Simplified Employee Pension Plan (SARSEP) is a type of Simplified Employee Pension that applies to “grandaddy” companies. By that, the SARSEP can no longer be established (as of 1997!); however, one’s legacy organization may have set up just such a plan prior to ‘97 when these plans were still available to employers. Those who have access to such “salary reduction arrangements” must meet participation requirements on an eligible basis. This applies to all qualifying employees, even those who were hired after 1996 as the SARSEP was drawn down. These requirements include that at least half of the eligible workforce must opt in to the salary reduction arrangement for the year. Those participants (who may include the self-employed) must be aged 21 and older, have worked with the company for at least three of the prior five years, and have received $650 or more in compensation (for 2021 and 2022 years). Employers can exclude certain employees from participation; i.e., those associates who are covered by union agreements.

Our valued community may also find value in the following comparison charts, which highlight the differences between traditional and Roth IRAs and the differences between certain types of Roth offerings and other retirements accounts, such as 401(k)s. Questions? Wondering about the best option for your situation? Talented team? Contact our talented team at OFWF today. We look forward to chatting with you!

6 views0 comments