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If you’d like to offer your employees a way to save for retirement, but aren’t ready to launch and operate a 401(k) or other employee benefit plan, a payroll deduction IRA is one solution. A payroll deduction IRA can also complement an existing retirement plan. They’re relatively easy to establish and cost little to start and operate. And businesses of any size — as well as self-employed individuals — can take advantage of them.
How does the deduction work?
With a payroll deduction IRA, employees’ contributions to their IRAs are deducted directly from their paychecks. The automatic deduction can make it easier for employees (and self-employed persons) to save for retirement on a consistent basis.
As their employer, you act as a conduit between employees and the financial institution at which the IRAs are established. After withholding the payroll deduction amounts your employees authorize, you transmit them to the financial institution.
At the same time, as long as your business keeps its involvement to a minimum, a payroll deduction IRA typically isn’t considered an employer retirement plan. That means it isn’t subject to the federal reporting and other requirements with which most other retirement plans must comply.
What steps should an employee take?
An employee should establish a traditional or Roth IRA with a financial institution and work with the financial institution to decide how to invest the funds. The employee also must allow his or her employer to make the payroll deductions and send the funds to the IRA.
Employees decide how much they’ll contribute and are always 100% vested in the amounts they’ve contributed to their accounts. Employees who take advantage of payroll deduction IRAs adhere to the same contribution limits as they would with IRAs they’d establish on their own. For 2018, this was limited to $5,500 for individuals under age 50, and $6,500 for persons 50 or older. Of course, for an employee who made less than this, the contribution would be limited to his or her taxable compensation for the year.
Employees can’t borrow from their IRA accounts and can’t use the money as collateral. As with any IRA, withdrawals made before an employee turns 59½ may be subject to taxes and penalties. Contributions to a payroll deduction IRA are not reflected on an employee’s Form W-2. Similarly, the form will indicate the employee doesn’t participate in a retirement plan.
What steps should an employer take?
Establishing and administering a payroll deduction IRA generally takes a modest amount of management time and attention. As the employer, you transmit your employees’ deductions to the financial institution. When establishing the program, you can limit the number of IRA providers to which you’ll forward contributions. Generally, if you offer a payroll deduction IRA to one employee, you should offer it to all.
In addition, employers must remain neutral about the IRA providers. That is, you can’t negotiate with the provider to obtain special terms for your employees or influence the investments the provider permits.
An employer can, however, provide general information on the payroll deduction IRA program and on saving for retirement. You can also make available information from the IRA provider, but it shouldn’t suggest that you’re endorsing the provider. At the same time, you need to clarify that your role is limited to collecting employee contributions and forwarding them to the IRA provider in a timely manner. You should let employees know you’re not promising a specific return on their investments.
Before employees participate in the program, inform them of any associated costs, such as account maintenance fees, or any limits on their ability to transfer contributions to another IRA provider. Employees should also understand that they can contribute to an IRA on their own.
Do you have more questions?
A payroll deduction IRA enables some employers to provide their employees with a tool that can make it easier to save for retirement, with little cost to the business. Self-employed persons can also use them. Contact us for more information and answer your questions about payroll deduction IRAs.