Stretch IRA

What is a Stretch IRA?

A Stretch IRA is a way to take an IRA and stretch the deferred earnings over the course of many years. Many times it is used to “stretch” that term over the course of generations. When the original owner of an IRA dies, and they have established a stretch IRA, the beneficiaries are allowed to keep that money in the IRA instead of having to take a lump sum right away and pay all the taxes up front. The beneficiaries will have to take required distributions that are defined by the plan so beneficiaries of such a plan should be informed prior to receiving the IRA from an estate so they can be prepared.

Do you need a Stretch IRA?

Before you decide to get a Stretch IRA you need to take into account your goals and decide if it is the right option for you. Most people that would use this type of IRA are those that are going to have more money than they can spend while they are alive. If there are no plans in place, the beneficiary would have a major tax payment due when they inherit a traditional IRA in the year they receive it. They would get a lump sum payment and is would be part of their income! A Stretch IRA allows your beneficiaries to spread that tax burden over a course of years so that the tax hit is minimized. This also allows the money to keep accumulating tax free while it is still in the plan. As always, you will want to discuss the situation with your financial adviser so that you have looked into all the possible options for your personal situation.

Setting up a Stretch IRA

1. Review your personal situation. You must make sure that you have all your bases covered before committing to such a plan. Make sure that your insurance for a long-term health stay is in place, any possible medical expenses would be taken care of, and that any emergency is looked at and reviewed just in case.

2. You must first look at your beneficiaries and what their needs may be. It may actually be more beneficial to them that you give them the lump sum payment as you want to help them pay off a large debt that they wouldn’t be able to do if they were forced to stretch that payment over a number of years. Though it may make sense to lower the current tax burden for your beneficiaries, it may not be in their best interest to do so due to them having a need for the money right away. Many of those that want to leave money after their death do not discuss their intentions with the beneficiaries. In some cases this may be important as you don’t want them to know, don’t want to deal with family squabbles while alive, or it just isn’t all that important. If your beneficiaries are more level-headed and you want them to get the best benefit possible, it should be a priority to discuss your intentions with them while you are still alive.

3. Talk to your financial advisor. Your advisor will need to put together the appropriate documents should the two of you decide this is your best option. Your advisor just may be able to recommend a better solution as well, or at the very least be able to set this up the best way possible. If you have several beneficiaries you may need to set up more than one account for them so that you can mark what percentage each is entitled to.

Possible Negatives for a Stretch IRA

1. If you think you may actually need this money during your life there is no benefit to a Stretch IRA. As I mentioned int he last section, it is very important to review your own situation before committing to any such plan.

2. Tax law changes. It is important to understand that tax laws change over the course of our lives. Although most situations are correctable when a law changes this is something to consider.

3. This point is so important that I will mention it again. If you think there is going to be any need during your life-time for this money then you do not want a Stretch IRA.

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Definition of Financial Planning

Financial planning is a systematic approach whereby the financial planner helps the customer to maximize his existing financial resources by utilizing financial tools to achieve his financial goals.

Financial planning is simple mathematics. There are 3 major components :

* Financial Resources (FR)
* Financial Tools (FT)
* Financial Goals (FG)

When you want to maximize your existing financial resources by using various financial tools to achieve your financial goals, that is financial planning.

Financial Planning : FR + FT = FG

In other words, financial planning is the process of meeting your life goals through proper management of your finances. Life goals can include buying a home, saving for your children’s education or planning for retirement. It is a process that consists of specific steps that help you to take a big-picture look at where you are financially. Using these steps you can work out where you are now, what you may need in the future and what you must do to reach your goals.


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Savings Incentive Match Plan for Employees (SIMPLE IRA)

Continuing with more detailed descriptions from my Small Business Retirement Plans Quick List, the next plan I wanted to detail was the Savings Incentive Match Plan for Employees, or as it is more commonly known, the SIMPLE IRA. Just as the name suggests, it is a Simplified plan. Here I will discuss the SIMPLE IRA from the employer and the employee perspectives highlighting the pros and cons of each.

What is a SIMPLE IRA and How Does it Work?

In order to have a SIMPLE IRA plan, you must be a small business – generally, you must have 100 or fewer employees. However, there is a 2-year grace period for growing employers to still be considered a small business even if they go over the 100-employee limit. If you do opt for a SIMPLE IRA plan, your employees can elect to defer part of their salary. Each employee is immediately 100% vested in (or “owns”) all contributions to his or her SIMPLE IRA.

A SIMPLE IRA plan is a Savings Incentive Match Plan for Employees. Because this is a simplified plan, the administrative costs should be lower than for other, more complex plans. Under a SIMPLE IRA plan, employees and employers make contributions to traditional Individual Retirement Arrangements (IRAs) set up for employees (including self-employed individuals), subject to certain limits. It is ideally suited as a start-up retirement savings plan for small employers who do not currently sponsor a retirement plan.

Employers MUST make contributions, however employees can if they would like.

Setting Up a Simple IRA

The process behind establishing a SIMPLE IRA is incredibly easy. It only requires a couple of forms to get it up and running. A SIMPLE IRA can only be established if you have fewer than 100 employees and no other current retirement plan available.

Step 1: Contact a retirement plan professional or a representative of a financial institution that offers retirement plans. Many financial institutions will probably have a pre-approved SIMPLE IRA plan form that you can review.

Step 2: Choosing a financial institution to maintain employees’ SIMPLE IRAs is one of the most important decisions you will make, since that entity becomes a trustee to the plan. (Alternatively, you can decide to let employees choose the financial institution that will receive their contributions.)

Regardless of who makes the choice, only the following institutions can be designated as trustees of SIMPLE IRA plans: banks, mutual funds, insurance companies that issue annuity contracts, and certain other financial institutions that have been approved by the IRS.

Trustees agree to:

a) Receive and invest contributions, and

b) Provide the employer with a summary description of the plan features each year.

Step 3: Choose a model form or other plan document offered by your financial institution. If your financial institution offers a model SIMPLE IRA plan document, you will have a choice of two forms to use:

a) IRS Form 5304-SIMPLE, Savings Incentive Match Plan for Employees of Small Employers (SIMPLE) – Not for Use With a Designated Financial Institution; or

b) IRS Form 5305-SIMPLE, Savings Incentive Match Plan for Employees of Small Employers (SIMPLE) – for Use With a Designated Financial Institution.

The model form you use will depend on whether you decide to select the financial institution that will receive contributions or to let your employees select financial institutions.

c) If employees are allowed to select the financial institutions that will receive their SIMPLE IRA plan contributions, you will fill out Form 5304-SIMPLE.

d) If you require that all contributions under the SIMPLE IRA plan be initially deposited with a designated financial institution, you will fill out Form 5305-SIMPLE.

Your choice of the employees covered will be set out in your selected plan document. You can choose to cover all employees without restriction. Alternatively, you can limit the employees covered to those who received at least $5,000 in compensation during any 2 years prior to the current calendar year and who are reasonably expected to receive at least $5,000 during the current calendar year.

Step 4: Complete and sign the selected IRS form (or other plan document, if not using a model form). When it is completed and signed, this document becomes the plan’s basic legal document, describing your employees’ rights and benefits. Do not send it to the IRS; instead keep it handy.

Employee Eligibility for a SIMPLE IRA

Eligibility for a SIMPLE IRA is any employee who has made $5,000 or more in the previous 2 years, and who is expected to earn at least $5,000 this year.

SIMPLE IRA Contribution Limits

Employee – $10,500 in 2007 and 2008. If the employee is age 50 or over, a “catch-up” contribution is also allowed. This additional catch-up contribution amount is: 2007 and 2008 – $2,500.

Employer – Generally, a dollar-for-dollar match up to 3% of pay or a 2% non-elective contribution for each eligible employee.

SIMPLE IRA Filing Requirements

An employer generally has no filing requirements. The annual reporting required for qualified plans (Form 5500 series) is not required for SIMPLE IRA plans. The financial institution that holds the SIMPLE IRAs for the plan handles most of the other paperwork.

SIMPLE IRA Withdrawals:

Permitted, but withdrawals are included in income and are subject to a 10% additional tax if the participant is under age 59-1/2. Also, if withdrawals are made within the first two years of participation, the 10% additional tax is increased to 25%.

SIMPLE IRA Pros and Cons

SIMPLE IRA Pros and Cons


1. Easy to set up and run – usually just a phone call to a financial institution gets things started.

2. Administrative costs are low.

3. Employees can contribute, on a tax-deferred basis, through convenient payroll deductions.

4. You can choose either to match the employee contributions of those who decide to participate or to contribute a fixed percentage of all eligible employees’ pay.


1. Employers MUST contribute to the plan regardless of whether and employee contributes or not.

2. Contributions are not flexible.

3. Contribution limits are lower than other retirement plans.

Overall this plan is really more of a benefit to the employee than the employer, or small business owner. Though it is a nice incentive to maintain employees, it is fairly skewed into the employee’s favor. This plan is something I would typically use if you have some employees that are with you for many years. People you just want to reward for their service and dedication to your business since you are required to contribute every year regardless.

If you are considering a SIMPLE IRA, the IRS has put together a nice little SIMPLE IRA Checklist that will help you in determining if the play is right for you.

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