One of the most popular retirement accounts is an IRA, or Individual Retirement Account. IRAs allow individuals to put money aside over time to save up for retirement, with tax benefits similar to that of other retirement plans.
Two common IRAs are the SIMPLE IRA and the traditional IRA, both of which have their own benefits, downsides, and rules around who can open an account. For investors trying to decide which IRA to open, it helps to know the differences between SIMPLE IRAs and traditional IRAs.
SIMPLE IRA vs Traditional IRA: Side-by-Side Comparison
Although there are many similarities between the two accounts, there are some key differences. This chart details the key attributes of each plan.
|SIMPLE IRA||Traditional IRA|
|Offered by employers||Yes||No|
|Who it’s for||Small-business owners and their employees||Individuals|
|Eligibility||Earn at least $5,000 per year||Under 70 ½ years old and earned income in the past year|
|Tax deductible contributions||Yes, for employers and sole proprietors only||Yes|
|Fee for early withdrawal||10% plus income tax
25% if money is withdrawn within two years of an employer making a deposit
|10% plus income tax|
|Contribution limits||$13,500 per year
10% plus income tax
|$6,000 per year
10% plus income tax
|Catch-up contribution||$3,000 additional per year for people under 50
10% plus income tax
|$$1,000 additional per year for people under 50|
What is a SIMPLE IRA?
The SIMPLE IRA, which stands for Savings Incentive Match Plan for Employees, is set up to help small-business owners help both themselves and their employees save for retirement. It’s a retirement plan that small businesses with fewer than 100 employees can offer employees who earn at least $5,000 per year.
A SIMPLE IRA is similar to a traditional IRA, in that a plan participant can make tax-deferred contributions to their account, so that it grows over time with compound interest. When the individual retires and begins withdrawing money, then they must pay income taxes on the funds.
With a SIMPLE IRA, both the employer and the employee contribute to the employee’s account. Employers are required to contribute in one of two ways: either by matching employee contributions between 1% and 3% of their salary, or to contribute a flat rate of 2% of the employee’s salary—even if the employee doesn’t contribute. With the matching option, the employee must contribute money first.
There are yearly employee contribution limits to a SIMPLE IRA; in 2021 the annual limit is $13,500, with an additional $3,000 in catch-up contributions for people over age 50.
Pros and Cons of SIMPLE IRA
It’s important to understand both the benefits and downsides of the SIMPLE IRA in order to make an informed decision about retirement plans.
SIMPLE IRA Pros
There are several benefits—to both employers and employees—to choosing a SIMPLE IRA, including:
• For employers, it’s easy for employers to set up and manage, including online set-up through most banks.
• For employers, management costs are low compared to other retirement plans.
• For employees, taxes on contributions are deferred until the money is withdrawn.
• Employers can take tax deductions on contributions. Sole proprietors can deduct both salary and matching contributions.
• For employees, there is an allowable catch-up contribution for those over 50.
• For employers, the IRA plan providers send tax information to the IRS, so there is no need to do any reporting.
• Employers and employees can choose how the money in the account gets invested based on what the plan offers. Options may include mutual funds aimed towards growth or income, international mutual funds, or other assets.
SIMPLE IRA Cons
Although there are multiple benefits to a SIMPLE IRA, there are some downsides as well, such as:
• Employers must follow strict rules set by the IRS.
• Other employer-sponsored retirement accounts have higher limits, such as the 401(k), which allows for $19,500 per year. (Check out our IRA calculator to see what you can contribute to each type of IRA.)
• If account holders withdraw money before they reach age 59 ½ they must pay a 10% fee and income taxes on the withdrawal.
• There is no option for a Roth contribution to a SIMPLE IRA, which would allow account holders to contribute post-tax money and avoid paying taxes later.
What is a Traditional IRA?
The traditional IRA is set up by an individual to contribute to their own retirement. Employers are not involved in traditional IRAs in any way. The main requirements to open an IRA are that the account holder must have earned some income within the past year and they must be younger than 70 ½ years old at the end of the year.
Pros and Cons of Traditional IRA
When it comes to benefits and downsides, there’s not too much difference between traditional vs SIMPLE IRAs—though there are a few that are unique to this type of plan.
Traditional IRA Pros
• It allows for catch-up contributions for those over age 50.
• One can choose how the money in the account gets invested based on what the plan offers. Options may include mutual funds aimed towards growth or income, international mutual funds, or other assets.
• Contributions are tax-deferred, so taxes aren’t paid until funds are withdrawn.
Traditional IRA Cons
• Much lower contribution limits than a 401(k) or a SIMPLE IRA, at $6,000 per year.
• Penalties for early withdrawal are also the same: withdraw money before age 59 ½ and pay a 10% fee plus income taxes on the withdrawal.
Can I Have Both a SIMPLE IRA and a Traditional IRA?
Yes, it is possible for an individual to have both a SIMPLE IRA through their employer and also a traditional IRA on their own—though they may not be able to deduct all of their traditional IRA contributions. The IRS sets a cap on deductions per calendar year.
Single people with an AGI (adjusted gross income) of more than $66,000 are restricted to a partial deduction; those with AGI above $76,000 may not take a deduction at all. Married couples filing jointly with an AGI of $105,000 to $125,000 may take a partial deduction; those with AGI above $125,000 may not take a deduction at all.
The SIMPLE IRA and traditional IRA are both individual retirement accounts, but the SIMPLE is set up through one’s employer—typically a small business of 100 people or less—while the traditional IRA is set up by an individual.
There are many similarities in attributes of the plans, though some major distinctions is that the SIMPLE IRA requires employer contributions (though not necessarily employee contributions) and allows for a higher amount of employee contributions per year.
Understanding the differences between retirement accounts like the SIMPLE and traditional IRA is one more step in creating a personalized retirement plan that works for you and your goals. If you’re looking to start saving for retirement now, or add to your investments for the future, SoFi Invest® online retirement accounts offers both traditional and Roth IRAs that are simple to set up and manage.
The information provided is not meant to provide investment or financial advice. Investment decisions should be based on an individual’s specific financial needs, goals and risk profile. SoFi can’t guarantee future financial performance. Advisory services offered through SoFi Wealth, LLC. SoFi Securities, LLC, member FINRA / SIPC . SoFi Invest refers to the three investment and trading platforms operated by Social Finance, Inc. and its affiliates (described below). Individual customer accounts may be subject to the terms applicable to one or more of the platforms below.
1) Automated Investing—The Automated Investing platform is owned by SoFi Wealth LLC, an SEC Registered Investment Advisor (“Sofi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC, an affiliated SEC registered broker dealer and member FINRA/SIPC, (“Sofi Securities).
2) Active Investing—The Active Investing platform is owned by SoFi Securities LLC. Clearing and custody of all securities are provided by APEX Clearing Corporation.
3) Cryptocurrency is offered by SoFi Digital Assets, LLC, a FinCEN registered Money Service Business.
For additional disclosures related to the SoFi Invest platforms described above, including state licensure of Sofi Digital Assets, LLC, please visit www.sofi.com/legal. Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform. Information related to lending products contained herein should not be construed as an offer or pre-qualification for any loan product offered by SoFi Lending Corp and/or its affiliates.
Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.
Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.