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Ask a Fool: Is a SEP-IRA or a SIMPLE IRA Better for Small-Business Owners?

By Matthew Frankel, CFP® – Mar 1, 2019 at 12:00PM

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It depends on how much you and your employees want to contribute.

Q: I run a small business with about 10 employees and want to set up a retirement plan. I don't want the headaches of starting a 401(k), but someone told me that a SEP-IRA or SIMPLE IRA could be a good choice. Which is the better of the two?

It depends on which one meets your needs. Here's a quick rundown of their main differences.

With a SEP-IRA, you can contribute as much as 25% of compensation up to a maximum of $56,000 in 2019, and even more for employees over 50. Of the two, this is the higher contribution limit, by far.

Here's the catch: 100% of SEP-IRA contributions come from the employer. And if you contribute a certain percentage of your salary, you have to do the same for every employee. In other words, you can't contribute 25% of your own salary into your SEP-IRA account and just 5% of your employees' salaries.

On the other hand, SIMPLE IRAs are likely the better choice if you want your employees to be able to choose how much to contribute. Employees are allowed to make contributions to SIMPLE IRAs of as much as $13,000 in 2019 ($16,000 if over 50).

As far as employer match is concerned, SIMPLE IRAs give you two choices: You can match employee contributions up to 3% of salary, or you can contribute a flat rate of 2% of salary for all employees, even those who don't contribute on their own.

One other thing to know is that just because one of these is called "SIMPLE" doesn't mean it's easier. Both account types are far easier to set up and maintain than a qualified retirement plan like a 401(k), and I'd actually give the edge in many ways to SEP-IRAs when it comes to simplicity.

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