Form 5304-SIMPLE or Form 5305-SIMPLE explained by a Form 8881 CPA | Credit for Small Employer Pension Plan

Form 5304-SIMPLE and 5305-SIMPLE setup variants of the IRS approved SIMPLE retirement plan. The difference? Form 5305 SIMPLE requires a designated financial institution and Form 5304-SIMPLE doesn’t. SIMPLE plans are for companies with a simple business structure e.g. Single Member LLCs and Sole Proprietorships that use IRS Schedule C as their annual IRS tax return. I’ll present a list of pros and cons of SIMPLE plans.

Hi, I’m Gary Bode, a CPA with a virtual office to help you with Schedule C regardless of where you live. I understand Schedule C companies start off small. This post is meant for companies without a CPA. Why am I posting it then? I’ve seen Single Member LLCs miss out on pension plan advantages, especially the startup tax credit available on Form 8881.

Form 8881

• File IRS Form 8881 to claim a tax credit for establishing a SIMPLE retirement plan.
• Form 8881 calculates the Credit for Small Employer Pension Plan Startup Costs, This credit can be up to $500 per year for the first three years of a SIMPLE plan.
• A tax credit is better than a deduction. A $500 tax credit saves you $500 in taxes. A $500 tax deduction saves perhaps $150 in taxes ($500 x your marginal tax rate).

Don’t miss put out on the Form 8881 incentive just because you don’t have a CPA.

SIMPLE Information

Here a past post that gives a nice 2013 SIMPLE example. SIMPLE plan contributions are not taxed in the year you make them, they’re tax deductions. So a $1000 SIMPLE contribution in 2013 might save you $300 of current income tax. But it still costs you $700 of cash flow. And because of timing, you may have to front the entire $1000 for some period of time.

The Two IRS SIMPLE Qualifying Criteria

• Fewer than 100 employees.
• No other company pension plan.

“The main factor for selecting the type of company pension? Personal goals of the owners, shareholders, Members or Partners. Don’t assume a SIMPLE plan is best for you. Lots of issues factor into the decision(s) of when to establish a pension plan and what kind of plan to establish.”
- Gary Bode, Form 8881 CPA

Advantages of SIMPLE plans

• Easy setup. Just download Form 5304-SIMPLE or Form 5305-SIMPLE from the IRS website.
• Credit for Small Employer Pension Plan Startup Costs: IRS Form 8881 allows up to a $500 tax credit, per year, for the first three years of a SIMPLE plan.
• Few administrative fees, per se.
• For a Schedule C Company, no formal payroll process is required. Sometimes this is the main consideration.
• For a Schedule C business, both the owner and company can make SIMPLE contributions. The company component is a legitimate tax deduction.
• They offer tax deferred savings.

Disadvantages of SIMPLE Plans

• They can be too simple. Some companies use them because they’re easy to implement, even when a SIMPLE plan isn’t the best solution.
• SIMPLE contributions require good cash flow. This is a major consideration in any small company.
• In my experience as a CPA, most small employers want to maximize their own pension contributions while limiting other employee’s benefits. But employees vest immediately with SIMPLE plans. Other retirment plans vest employees in 3-5 years, so, the company gets back its pension contributions for employees that don’t stay around that long.
• SIMPLE allows only one pension plan for your company. Having multiple pension plans can help the owners or Members maximize their pension benefits and still limit other employee’s pension benefits.
• SIMPLE plans don’t allow much self adminstration. A big issue in 2013 is broker transaction fees eating away at the tax deferral benefits of a pension plan.
• There’s still administrative compliance with a SIMPLE plan. Just make sure you follow all the IRS directives.

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