401(k) vs. SIMPLE IRA: Which retirement plan is better for your business?

There's no such thing as a one-size-fits-all approach to retirement. Despite recent legislation aimed at making offering a traditional 401(k) plan more affordable, some small businesses turn to alternative plans that require less upfront costs or upkeep.

Certain business owners may turn to SIMPLE IRA or SIMPLE 401(k) plans. While not as robust as more traditional plans, they come without some of the challenges sometimes associated with establishing and maintaining a traditional 401(k) plan. Below, we’ll dive into how the different plans compare — and how businesses can approach choosing a retirement plan that works for them.

Let’s get started.

Understanding 401(k) plans

To better understand how these retirement plan options compare, let's first examine the basics of a traditional 401(k).

A 401(k) is a tax-advantaged, employer-sponsored retirement savings plan in which employees can contribute some of their salary to individual accounts. Employers can also contribute to these accounts. Businesses of any size can set up 401(k) plans for their employees.

401(k) contributions:

In 2024, the contribution limit for 401(k) plans is $23,000, and $30,500 for employees 50 years of age and older. These high contribution limits can be a big win for employees, especially when paired with a generous employer match and/or a profit-sharing contribution.

Employees can make two different types of contributions to a 401(k) plan — traditional and Roth.

401(k) employer matching:

With a traditional 401(k) plan, employers can match their employees' retirement savings. Your company can benefit from certain tax advantages by offering employees a 401(k) match. Offering a match is discretionary — some employers choose not to match employee contributions at all.

401(k) plan compliance:

While offering a 401(k) plan can be a great way for businesses to attract and retain talent, such plans require considerable attention in the plan design phase and regular annual upkeep thereafter.

Without a third-party administrator, managing Form 5500 compliance, record-keeping, benefit distribution, and reporting obligations may seem daunting for some businesses. Then, there's the whole matter of potential fiduciary liability. That's a big reason why some business owners turn to SIMPLE IRA plans.

Hint: With Guideline as your 401(k) provider, we'll handle the heavy lifting. Our experts advise you on plan setup and take care of plan administration, record-keeping, Form 5500 reporting, and much more.

Understanding SIMPLE IRA plans

Simple abbreviation, long name — Savings Incentive Match Plan for Employees plan invested in Individual Retirement Accounts, or SIMPLE IRAs. As its name suggests, these plans allow eligible employees to contribute to their own separate IRAs established in their names. These IRAs differ from the traditional IRAs that individuals might establish for themselves. SIMPLE IRAs were designed specifically to help small businesses with 100 or fewer employees.

SIMPLE IRAs are generally less expensive to administer than a regular 401(k) plan, making them attractive to companies who want to offer retirement benefits at a low price point. They also don't come with many of the compliance and reporting requirements associated with regular 401(k) plans. (SIMPLE IRAs are not subject to Form 5500 reporting requirements, for example.)

SIMPLE IRA contributions:

Like other retirement plans, employee contributions to a SIMPLE IRA are capped. The 2024 contribution limit is $16,000 and $19,500 for those 50 years of age or older. To be eligible to contribute to a SIMPLE IRA an employer can require that employees must have earned at least $5,000 during any two prior years and are expected to earn at least $5,000 in the current year.¹

As is the case with traditional 401(k) plans, contributions can be made on a pre-tax or Roth basis, However, Roth SIMPLE IRAs are new and still fairly rare. The taxation rules for SIMPLE IRA distributions are the same as for traditional 401(k) plans.

SIMPLE IRA employer contributions:

Here's one area where 401(k) plans and SIMPLE IRAs differ. SIMPLE IRAs require employers to contribute to eligible employees' accounts. These contributions can either take the form of a flat 2 percent of employee pay, regardless of whether or not the employee elects to contribute, or a dollar-for-dollar match of the eligible employees' contributions, up to 3 percent of salary.

And unlike other matching arrangements, employees are always 100% fully vested in their own contributions and their employer contributions, meaning that they are entitled to keep the full amount contributed, no tenure requirements attached. In return for this required contribution, the employer’s plan does not undergo annual nondiscrimination testing, unlike a regular 401(k) plan.

SIMPLE IRA rollovers:

There is a two-year rule for SIMPLE IRAs, which dictates when participants can move their SIMPLE IRA funds to another IRA, employer-sponsored retirement plan, or take a cash distribution. The two-year waiting period begins on the first day an employer deposits a contribution to the SIMPLE account. The only exception to this two year period is if the employer terminates the SIMPLE IRA and the participant rolls the money over to a safe harbor 401(k) plan that limits the distribution of rollover assets to match those of safe harbor contributions.

After two years, employees can rollovers to an IRA or eligible retirement plan without penalty.

401(k) plans vs. SIMPLE IRA

There are a few key differences between 401(k) plans and SIMPLE IRA plans, such as contribution limits, and employer matching options. The table below breaks down a few of the key differences.

Transitioning from a SIMPLE IRA to 401(k) mid-year

In general, SIMPLE plans are meant for companies with 100 or fewer employees. But as your workforce grows or your company’s priorities change, it becomes increasingly important to reconsider your retirement offering. The higher contribution limits and greater potential for employer contributions are reasons that your employees may be just as eager to make the change.

As of January 1, 2024, the SECURE Act 2.0 allows employers to transition from offering a SIMPLE IRA to a safe harbor 401(k) mid-year instead of only at the beginning of the calendar year. This change is particularly helpful for growing small businesses that may want a different type of retirement plan to better meet their needs.

The first step in switching from a SIMPLE IRA to a 401(k) mid-year is to formally document the SIMPLE IRA plan's termination date. Keep in mind that when switching mid-year, the SIMPLE plan must be replaced by a Safe Harbor 401(k) plan. The replacement must be complete by October 1st and requires that employers provide employees with 30 days advance notice that the SIMPLE IRA plan will be terminated, as well as a Safe Harbor notice at least 30 days before the new 401(k) plan's effective date. Additionally, there can be no time gap between when the SIMPLE IRA plan is terminated and when the 401(k) plan starts.

Choosing a retirement plan that meets your needs

Both SIMPLE IRA and 401(k) plans offer benefits to employees when saving for retirement, and both plan types can help employers provide competitive offerings when it comes to attracting and retaining talent.

If you determine that switching from a SIMPLE IRA to a 401(k) is the right move for your organization, Guideline can facilitate the transfer process. Guideline helps employers choose a plan that fits their business goals, offers integrations with top payroll providers so there's no need to maintain deductions or manually re-enter payroll data, and gives your team access to live support, guided employee onboarding, a mobile app, and more.