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The “Rothification” of SEP and SIMPLE IRAs

Read about the expanded options for retirement savings and how you can contribute to an employer plan on a post-tax basis.

Posted on February 19, 2023


The Setting Every Community Up for Retirement Enhancement (SECURE) Act expanded the options for retirement savings by allowing SEP IRA and SIMPLE IRA contributions to be designated as Roth IRAs. This “rothification” means that contributions to these types of savings plans can now be made on a post-tax basis, allowing the funds to grow tax-deferred and to be withdrawn tax-free in retirement. This provides additional flexibility and tax planning opportunities for small business owners and self-employed individuals who participate in these types of plans.  

It's important to note that there are general guidelines and other factors that may affect an individual's eligibility to contribute with a Roth component, including the type of plan they participate in, their income, and other factors; the biggest unanswered question is how and who will track the contributions.

With a SEP IRA, only the employer is making a contribution, therefore easier to track the Roth component side. However with a SIMPLE IRA, two people are making a contribution, both employer and employee. Can only the employee make Roth contributions to a SIMPLE IRA? Can only the employer make Roth contributions to a SIMPLE IRA? Or is it a combination of both? These are just some of the questions with answers that are unclear at this point in time. Regardless, this could be a huge opportunity for those that have spoken to a knowledge tax professional and are eligible.   

Pros of Designating a SEP or SIMPLE IRA with a Roth Component 

  • Tax-free withdrawals - With a Roth component, contributions are made on a post-tax basis, and qualified withdrawals in retirement are tax-free. This provides more certainty about the amount of income that will be available in retirement, since taxes won't eat into the retirement Imagine paying money on your ‘acorn’ so you can grow your ‘money tree.’
  • Eligibility - Those who previously were unable to contribute or benefit from a Roth IRA because of their income limits may now be able to participate via their SEP or SIMPLE IRA.
  • Required Minimum Distributions (RMDs) - With a Traditional IRA, you are required to start taking distributions once you reach a certain age. With a Roth component, there is no such requirement, which means that you can leave the money in the account to continue growing tax-free for as long as you like. While SEP and SIMPLE IRAs will still have RMDs, eligible individuals will be able to continue making contributions.  

Cons of Designating a SEP or SIMPLE IRA with a Roth Component 

  • Higher taxes upfront - Since contributions to a Roth IRA are made on a post-tax basis, you'll pay taxes on the contributions upfront, which could result in a larger tax bill in the year the contributions are made.
  • No tax deductions - You can't deduct contributions from a Roth, because you already paid taxes on the money before adding it to your account.

In conclusion, designating a SEP IRA or SIMPLE IRA with a Roth component can provide a number of benefits, but it's important to consider the trade-offs. It's always a good idea to consult a financial advisor or tax professional to determine what's best for your unique situation. If you have more questions or are ready to open your SEP or SIMPLE IRA, Quest representatives would love to speak with you so schedule a free one-on-one chat with your certified representative.  

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