Simplified Employee Pension (sep) Plans Using Iras
While a SEP takes the form of an IRA, employees still can set up their own IRAs
. However, participation in the SEP will cause deductions for contributions to the IRA to be phased out for participants with adjusted gross incomes above certain levels.
Employer contributions are excluded from the employee's gross income and are not subject to employment taxes. Elective deferrals and salary reduction contributions are also excluded from gross income but they are subject to employment taxes.
Contributions must not discriminate in favor of highly compensated employees. Not more than $230,000 (for 2008) of compensation may be taken into account. This amount is indexed to inflation.
Basic advantages. SEPs offer a number of advantages:
Low start-up costs
Low administration costs
Contributions need not be made to the SEP every year
Portability of benefits
Reduced fiduciary responsibility on the part of the employer
Disadvantages. Possibly, the biggest disadvantage of the SEP is the required inclusion of part-time or seasonal employees - those short-term employees who provide the least contribution to the company's success.
Also, the employer should be made especially aware of the SEP provisions relation to vesting, withdrawals, employee coverage, and the tax consequences on distribution, all of which are separately discussed below.
IRS Model SEP agreement. The IRS model From 5305 SEP may be used by employers in establishing SEPs. However, employers who currently maintain any other qualified plan, or who have ever maintained a defined benefit plan, may not use From 3503-SEP. The advantage of using the model from is that the employer is assured that the SEP meets applicable requirements without the need for an additional ruling, opinion, or determination letter from the IRS. Use of this from simplifies ERISA reporting and disclosure requirements. Basically, all the employer has to do is to provide copies of the completed from to participants and statements showing contributions made on their behalf.
Coverage. The employer must make contributions on behalf of each employee who: (1) has attained age 21, (2) has performed services for the employer during at least three of the immediately preceding five years, and (3) has received at least $500 in pay during the year.
Full vesting and withdrawals. All employer contributions to a participant's IRA are fully (100 percent) vested; the employee takes immediate ownership and may withdraw the contributions at any time, but subject to income tax and a special penalty tax on a premature withdrawal.
Employer deductions. The contributions made by the employer under a SEP are deductible for the year in which they are made. The amount of the deduction is limited to 25 percent of compensation paid during the SEP's plan year. An employer may use its taxable year for purposes of determining contributions to a SEP. The excess of the contribution over the 25 percent limit is carried forward and deductible in future tax years in order of time, subject to the 25-percent limit in each succeeding tax year.
Distributions. SEP distributions are subject to the final regulations applicable in determining the required minimum distribution from qualified plans and IRAs.
SEPs fro persons past age 70. A sole proprietor, partner, or corporate employee who is past the age of 70.5 may enjoy special benefits through SEPs because SEP contributions may be made even after he or she reaches that age. However, where the SEP holder has reached age of 70.5 at the time the contributions are made, distributions must commence at that time. The SEP holder may stretch out the payments by using the uniform lifetime table under the final regulations governing minimum distributions. Under the uniform lifetime table, an individual's life expectancy from year to year in never reduced by a full year. Therefore, SEP distributions may be stretched out far beyond the individual's life expectancy, as computed when distributions first commenced.
by: Annuity Zing
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