Simplified Employee Pensions
Simplified Employee Pensions
Extensive paperwork, high costs and complicated administration
associated with certain qualified retirement plans may cause
many small businesses to shy away from establishing any
retirement plan at all. This may be true of your small business,
even though you recognize the many tax and employee retention
benefits of providing a plan. Whether you are a doctor, lawyer,
free-lance writer, artist, manufacturer's representative or
another type of self-employed business owner, the Simplified
Employee Pension Plan, or SEP-IRA plan, may be a good fit for
your small business.
Although a SEP IRA account is technically an Individual
Retirement Arrangement (IRA), the SEP plan functions more like a
cross between an IRA and a profit sharing plan. As with a profit
sharing plan, your small business may make a tax deductible
contribution to each employee's SEP IRA account up to the lesser
of 25 percent of compensation or $44,000 (2006). The business
owner has the flexibility to choose any level of contribution
(within the above limits). The business owner has the discretion
to set the contribution amount as low as zero. This can come in
handy in years when business cash flow is a little less than
desirable. But, it is the difference from, not the similarity
to, a profit sharing plan that really makes the SEP too good to
overlook: the SEP is simple.
The simplicity of the SEP significantly distinguishes it from
the traditional profit sharing plan. A SEP is easy to establish
and maintain, which makes it less expensive than a profit
sharing plan. The SEP may be established by any corporation ("S"
or "C"), partnership, non-profit organization or sole
proprietor. There is no complicated adoption agreement to
purchase, complete or file with the Internal Revenue Service
("IRS"). A simple one page form is all that is required to
establish a basic SEP and this form may be obtained at no cost.
Other aspects of the SEP illustrate its simplicity as well,
including vesting and the allocation of contributions. SEP
contributions are always 100% vested in the employees so there
is no vesting schedule to keep track of. Additionally, each
employee generally receives the same percentage of pay
contribution. So the contributions are easy to calculate.
Alternatively, you may choose to purchase a SEP document that
"integrates" with Social Security to provide a larger
contribution for higher wage earner, which is usually the
business owner.
The uniformity of the SEP eligibility rules also creates
simplicity. Eligibility rules are applied in the same manner to
the business owner and each employee. SEP eligibility rules
provide that the plan must cover employees who have reached age
21 and who have earned at least $450 in any three out of the
last five years. Of course, you do not have to use the maximum
three years of service. You may want to use a shorter period of
time if, for example, your business is a younger than three so
that you are not eliminated from your own SEP.
The simplicity of the in-expensive SEP makes it a powerful tool
for many small business owners. The above article mentions just
a few of the many tax and retirement planning benefits that may
make the SEP a good fit as one component in your business plan.
For assistance in evaluating the fit of the SEP with your small
business and before implementing any significant retirement
planning strategy, please consult with your Financial Advisor.