How to switch from a SIMPLE IRA to a Safe Harbor 401(k) | SECURE 2.0 Made it Easier

Small businesses with a SIMPLE (Savings Incentive Match Plan for Employees) IRA may want to switch to a Safe Harbor 401(k) due to the higher contribution opportunities and flexible plan design options. Fortunately, the passage of the Secure 2.0 Act of 2022 has made it easier for employers to make this switch.

SIMPLE IRA vs. Safe Harbor 401(k)

Under a SIMPLE IRA:

• Employees can make Pre-Tax or Roth Deferrals up to $16,000 plus $3,500 for age 50+ (2024).
• Employers must make a 3% matching contribution or 2% nonelective contribution to every participant. All contributions are immediately 100% vested. Employers may not make any additional contributions.
• Notice of the employer contribution obligation and deferral limits must be given by November 2 in advance of the upcoming calendar year.
• If the employer determines to make the nonelective contribution and an employee will not establish an IRA, the employer must set it up for him.
• Although the employer can limit what financial institution provides the IRAs, each IRA bears the full expense of its investments with no cost break based on the total of the group’s accounts.
• Employers cannot offer any other retirement plan alongside the SIMPLE IRA.
• A SIMPLE IRA operates on a calendar year basis, regardless of the employer’s fiscal year.
• If not properly replaced, the IRAs under a terminated SIMPLE IRA must sit for 2 years before they can be rolled to a 401(k) plan.

A replacement Safe Harbor 401(k) offers the following features:

• Higher Employee Deferral Limits: $23,000 plus $7,500 for age 50+ (2024)
• At a minimum, a safe harbor plan must receive 100% vested employer contributions in the form of either (1) nonelective contributions of 3% of compensation or (2) matching contributions of 100% on the first 3% of compensation, plus 50% on the next 2%.
• The safe harbor 401(k) plan can receive a rollover from the SIMPLE IRA accounts immediately.
• Discretionary employer contributions can be designed to offer key employees enhanced allocations.
• Accounts are held under one trust that may be eligible for lower cost mutual funds.
• Non-responsive employees are automatically enrolled and invested in a default fund as a part of the general plan administration.
• Although most 401(k)s operate on a calendar year, they can be maintained on the employer’s fiscal year.
• Employers are able to offer other retirement plans, like an ESOP or a cash balance plan.

SECURE 2.0 Simplifies the Transition from a SIMPLE IRA to a Safe Harbor 401(k)

Before SECURE 2.0, an employer had to wait until the end of the year to switch from a SIMPLE IRA to a 401(k) plan. The employer had to know that a change was going to be made and notify the employees by November 2. Termination of the SIMPLE IRA had to be as of December 31 and the 401(k) plan had to start on January 1. Thus, SIMPLE IRA terminations required advanced planning to act during this specific window. Now, under SECURE 2.0, an employer can replace its SIMPLE IRA with a safe harbor 401(k) at any point during the year. For a mid-year transition, the employer contribution obligation for the year is prorated. Any employee SIMPLE IRA deferrals count toward the 401(k) limit.

Pooled Employer Plans (PEP)

Another consideration for small to mid-size employers is a replacement safe harbor 401(k) under a Pooled Employer Plan (PEP). The SECURE Act paved the way for Pooled Plan Providers to begin offering PEPs in 2021. These plans allow multiple small employers of any industry to join one single retirement plan rather than having to each start their own plan.

The Central PA 401(k), by Conrad Siegel is one of these newly developed PEPs, designed for businesses in Pennsylvania to join together to offer a competitive retirement benefit.