SEP IRA vs. Simple IRA: What’s the Difference? (Plus How To Know if Your Company Has Outgrown Them)

A SEP IRA or Simple IRA can make offering and managing a retirement plan more manageable for some small businesses.

Although many 401(k) options offer greater flexibility and the ability for business owners to take advantage of larger, tax-deductible contributions (and potentially larger shares of contributions), there are times when a business might elect to offer a SEP IRA or Simple IRA instead.

Resource: Consider the advantages and disadvantages of different plans with this comparison chart.

Both options offer unique benefits and have specific rules that suit different types of organizations and employees. Understanding the differences between an SEP IRA vs. a Simple IRA (and how to tell if your company has outgrown these options) is crucial in making an informed decision for your company’s employee benefit strategy.

SEP IRA vs. Simple IRA: Sponsors

An SEP IRA, which stands for Simplified Employee Pension Individual Retirement Account, is a type of retirement account available to all businesses, including sole proprietors, startups and small businesses.

It’s an attractive option for companies with few or no employees because there’s not a lot of paperwork to manage it, and it’s relatively inexpensive to start and maintain.

A Savings Incentive Match Plan for Employees (SIMPLE) IRA is designed for small businesses with 100 or fewer employees. It’s an excellent choice for companies that want a straightforward, cost-effective retirement plan for their employees.

SEP IRA vs. Simple IRA: Participants

Both an SEP IRA and a Simple IRA plan must cover all employees and all employees of related employers.

SEP IRA vs. Simple IRA: Deadline to Establish

You can establish and fund an SEP IRA until the business’s tax filing deadline (including extensions). This essentially gives companies until October 15 (September 15 for partnerships, LLCs and S corporations) to set up and fund an SEP IRA and deduct contributions on the prior year’s return.

A SIMPLE IRA must be set up by October 1 of the year you plan to make contributions.

SEP IRA vs. Simple IRA: Funding

An SEP IRA is funded solely by employer contributions. Employees cannot contribute to an SEP IRA plan. On the other hand, a SIMPLE IRA is funded by both employee deferrals and employer contributions.

SEP IRA vs. Simple IRA: Government Reporting

Neither SEP IRAs nor SIMPLE IRAs require annual reporting to the IRS. This makes them an attractive option compared to a 401(k) plan, which requires employers to file Form 5500 on an annual basis and requires an audit when the plan reaches a certain threshold.

SEP IRA vs. Simple IRA: Maximum Contributions

One of the most important differences when it comes to an SEP IRA vs. SIMPLE IRA is the contribution limits.

An SEP IRA allows contributions of up to 25% of compensation or a maximum of $66,000 for 2023 ($69,000 for 2024). Contribution limits are adjusted annually for inflation. Annual contributions are not mandatory, so employers can skip them during unprofitable years.

With a SIMPLE IRA, employees can contribute up to $15,500 in 2023 ($16,000 for 2024), with a catch-up contribution of $3,500 for those 50 or older. Employers must either match employee contributions up to 3% of compensation or contribute 2% of each eligible employee’s compensation.

With a SIMPLE IRA, there is no vesting schedule. Employee and employer contributions are always 100% vested, so employees can access the funds anytime.

Because an SEP IRA has higher contribution limits, it allows participants to contribute significantly more than they could under a traditional IRA, Roth IRA or SIMPLE IRA.

SEP IRA vs. Simple IRA: Maintenance and Administration

SEP IRAs are straightforward to establish and maintain with minimal paperwork, reporting and disclosures. This often translates into lower administrative costs due to its simplicity and lack of mandatory filings. They are easy to set up and operate, with fewer administrative burdens than a SIMPLE IRA

However, an SEP IRA does have more technical requirements to maintain the plan, which can be easily overlooked.

How Do I Know Which Retirement Plan Is Right for My Company?

Like any employee benefit plan, SEP IRAs and SIMPLE IRAs each have pros and cons. The decision between an SEP IRA vs. Simple IRA and even a 401(k) plan comes down to your budget and expected benefits.

Much like a business, these retirement plans have a life cycle. The SEP IRA and Simple IRA are excellent retirement vehicles for a business that is just starting. Cash flow is usually pretty tight, and there is greater need for it to be put back into the business.

But as a business matures and there is less of a need for capital investment, a business can easily outgrow a SIMPLE IRA or SEP IRA. At that time, a 401(k) plan or a cash balance plan allows for larger contributions and much more flexibility.

If your business is experiencing any of these factors, it may be time to consider other benefit plan options besides a SIMPLE IRE or SEP IRA:

• You are seeing increasing employee headcount
• You want to heighten your competitive offerings in recruiting and retaining employees
• You expect large growth for your organization
• Your company is exiting the start-up phase of the business life cycle and becoming more financially stable
• You are increasing your employees’ compensation

If you have questions or want to learn more about which plan is right for you, the Warren Averett Benefit Consultants team is here to help. Contact us for personalized advice and start paving the way for a secure financial future for you and your employees.