What is a SEP IRA?
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A SEP IRA is a retirement plan established by businesses. Its main advantages are that it’s easy to establish, little work is required to administer the plan and there’s no deadline for setting it up. Traditional plans must be established by the end of the plan year or December 31st. A SEP IRA is subject to the tax-filing deadline and you can request time extensions.
A SEP can be established by a business owner, corporation or partnership. The employer decides each year whether or not to contribute to the SEP. Rather than having to deposit a fixed amount the company can base the contribution on their profitability.
The employer may deduct up to 25% of contributions paid to employees each year. The maximum amount of compensation for each employee in 2007 was $225,000. In addition to this the employer may be eligible for a tax credit for expenses required in establishing the SEP.
The employer decides who’s eligible to participate in the plan. Normally the following individuals are ineligible: anyone covered under a collective bargaining agreement (union workers), anyone under the age of 21, anyone earning less than $500 for 2007, anyone who works less than three of the five preceding years, and non-resident aliens with no U.S. income.
Each employee of the company is responsible for opening his or her own Traditional IRA – SEP contributions are deposited into these accounts. The employer is not obligated to provide investment assistance. SEP plans do not require non-discrimination testing or filing of 5500 returns. All the company has to do is complete IRS form 5305 and provide a copy to their employees.
With a SEP IRA the employee is immediately 100% vested. But unlike qualified plans you can not make loans from this type of account. Business owners are attracted to the SEP IRA because it’s inexpensive and easy to administer. Don’t be fooled by this – it’s always best to consult a tax professional when establishing any type of retirement plan.
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