SIMPLE IRA: The Complete Practitioner Guide to Contribution Limits, Employer Match Requirements, Plan Setup, and When to Upgrade to a 401(k) in 2026

SIMPLE IRA Eligibility: Who Can Establish One and Who Cannot

A SIMPLE IRA may be established by any employer — including sole proprietors, partnerships, S-Corps, C-Corps, and LLCs — that meets two criteria: (1) the employer had 100 or fewer employees who received at least $5,000 in compensation during the preceding calendar year, and (2) the employer does not maintain another qualified retirement plan (with limited exceptions for collectively bargained plans). The 100-employee limit is measured annually — if an employer grows beyond 100 employees, there is a two-year grace period before the SIMPLE IRA must be terminated.

Self-employed individuals (sole proprietors and single-member LLC owners) may establish a SIMPLE IRA for themselves, treating their net self-employment income as compensation for contribution purposes. The employer match is calculated on net self-employment income after the deduction for one-half of self-employment tax under IRC §1402(a)(12).

The plan must be available to all employees who received at least $5,000 in compensation during any two preceding calendar years and are reasonably expected to receive at least $5,000 in the current year. Employers may use less restrictive eligibility requirements (e.g., no prior-year requirement) but may not use more restrictive ones. Part-time employees who meet the compensation threshold must be included.

2026 Contribution Limits: Employee Deferrals and Employer Match

The employer must choose between the two contribution formulas — the 3% match or the 2% non-elective — and notify employees of the choice at least 60 days before the start of the plan year. The 3% match is generally more cost-effective for employers because it only applies to employees who actually defer. The 2% non-elective is required for all eligible employees regardless of participation, which increases employer cost but may be preferable when the employer wants to provide a benefit to employees who cannot afford to defer.

The Two-Year Rule: The Most Important SIMPLE IRA Risk Factor

Under IRC §72(t)(6), distributions from a SIMPLE IRA within the first two years of participation are subject to a 25% early withdrawal penalty — not the standard 10%. The two-year period begins on the date the employee first had an employer contribution made to the SIMPLE IRA on their behalf. This is one of the most important disclosures practitioners must make when recommending a SIMPLE IRA to a client.

The practical implications are significant. A client who establishes a SIMPLE IRA in 2026 and then decides to roll it over to a traditional IRA or 401(k) in 2027 will face a 25% penalty on the entire rollover amount if the two-year period has not elapsed. The only exception is a rollover to another SIMPLE IRA — SIMPLE-to-SIMPLE rollovers are permitted at any time without penalty. After the two-year period, the SIMPLE IRA can be rolled over to a traditional IRA, SEP-IRA, or 401(k) without penalty.

This creates a planning trap for clients who establish a SIMPLE IRA and then want to upgrade to a Solo 401(k) or SEP-IRA. The upgrade cannot be executed without penalty until the two-year period has elapsed. Practitioners should factor this into the plan selection decision — if there is any likelihood the client will want to change plans within two years, a SEP-IRA or Solo 401(k) may be more appropriate despite the higher administrative requirements.

Plan Setup: Establishment Deadline, IRS Documents, and Trustee Selection

A SIMPLE IRA must be established by October 1 of the year for which contributions will be made. This is a hard deadline — unlike a SEP-IRA, which can be established up to the tax return due date including extensions. A new employer (one that did not exist on October 1) may establish a SIMPLE IRA as soon as administratively feasible after the business begins.

1. Choose the IRS model document. Form 5304-SIMPLE allows each employee to choose their own IRA trustee (financial institution). Form 5305-SIMPLE requires all employees to use the same designated financial institution. Most small employers use Form 5305-SIMPLE for simplicity. Both forms are available on IRS.gov and require no IRS filing — they are retained by the employer.
2. Select a financial institution as trustee/custodian. Major custodians (Fidelity, Vanguard, Schwab, TD Ameritrade) offer SIMPLE IRA plans with no setup fees. The custodian will provide the plan document, employee enrollment materials, and contribution processing.
3. Provide the Summary Description to employees. At least 60 days before the start of each plan year (or before the employee becomes eligible), the employer must provide a Summary Description (the completed IRS model form) and an annual notice of the employer's contribution election for the upcoming year.
4. Establish individual SIMPLE IRAs for each participant. Each employee must have their own SIMPLE IRA account. The employer makes contributions directly to each employee's account. There is no trust or pooled account — this is what makes SIMPLE IRAs administratively simple compared to 401(k) plans.
5. Remit contributions timely. Employee deferrals must be deposited as soon as reasonably possible, but no later than 30 days after the end of the month in which the amounts were withheld from wages. Employer matching contributions must be made by the employer's tax return due date including extensions.

SIMPLE IRA vs. SEP-IRA vs. Solo 401(k): Decision Framework

Frequently Asked Questions — SIMPLE IRA