Does a 401k Contribution Eliminate the Ability to Defer to a SIMPLE IRA?
Employer matching money is free money. For savvy savers, maximizing retirement deferral contributions ensures full realization of this benefit. Fortunately for those with multiple employers, the IRS does not prohibit multiple types of retirement plan deferrals. There are a few rules to keep in mind while setting up deferrals to avoid penalties and complications.
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Contribution Limits
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While there is no rule prohibiting deferral contributions to both 401k plans and SIMPLE IRAs, there are limits to total contributions in a given year. According to the deferral guidelines established by the IRS, elective deferrals are also reduced by the total amount of elective deferrals to other plans in the same time period. This means that the maximum total deferral becomes the lesser of the plan limits if you contribute to both plans. This is typically the SIMPLE IRA limit if both employers use the IRS maximums. In 2010, this was $11,500, with an additional catch up contribution of $2,500 permitted for those over age 50. Finally, total deferral contributions cannot exceed compensation for the year.
Note that the 401k IRS deferral limits are somewhat higher: $16,500 plus $5,500 catch up, although employers may set lower limits.
Plan Designs
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SIMPLE IRA plans fall into two categories: employer matching plans, and employer non-elective contribution plans. In the first case, the employer matches deferral contributions dollar for dollar up to 2 or 3 percent of salary. In the second case, contributions are made for each employee regardless of deferral status. 401k plans typically have employer matching amounts and may or may not have non-elective profit sharing components.
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Considerations
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Smart savers maximize the total amount of employer matching contributions. If your SIMPLE IRA is a non-elective plan, there is no reason to contribute additional money to this plan. The employer contributes to the plan on your behalf no matter what, and any contribution to this plan reduces the total amount you are able to contribute to your 401k. The reverse is true if the 401k plan does not have a match.
If both plans offer a match, calculate the minimum amount you must defer to receive the full match in either plan. Use these numbers to determine the total deferral and the best allocation of your savings to either plan.
Excess Contributions
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If you defer to multiple plans, you must track your contributions carefully to avoid excess deferrals. Excess contributions must be withdrawn from the plan by the tax filing deadline of the current year, and must include any earnings. Uncorrected amounts are subject to tax penalties.
Warning
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Withdrawals from a SIMPLE IRA within two years of the initial deposit are subject to a 25 percent tax, whether or not they are rolled into another qualified account. This immobility may be a consideration as you determine total deferrals to that account.
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