Presented by Michael Zirbel
As a self-employed individual or small business owner, you have the option of setting up a simple and affordable retirement plan for you and your employees. There are a few options available, but one you might want to consider is the simplified employee benefit (SEP) IRA. This plan type is an attractive choice for the self-employed or small business owner looking to maximize their own retirement contributions.
What is a SEP IRA?
A SEP IRA is an employer-funded IRA set up for employees. Contributions are made by the employer justalthough employees may be able to make separate traditional IRA contributions to the account.
Who can set up a SEP IRA?
This type of IRA is suitable for corporations, sole proprietors, partnerships, non-profit organizations, and anyone who has a side hustle in addition to a full-time job.
Characteristics of a SEP IRA
- 25 percent of the employee’s W-2 compensation (or 20 percent for a sole proprietor filing Schedule C) or
- $61,000 for 2022
Example: In 2022, if an employee earned $70,000 as reported on her W-2, 25 percent of her salary would be $17,500, less than the $61,000 cap. Therefore, the employer could contribute up to $17,500 into the SEP IRA for that employee.
SEP IRA contributions do not affect the total salary deferral limit provided the employers are different.
Example: If a company employee participated in the company’s 401(k) but also had their own small business with a SEP IRA, they could maximize contributions for everyone. However, if the business owners are the same, the total employer/employee contributions cannot exceed $61,000 for 2022 ($67,500 if the employee is 50 years of age or older).
The deadline for establishing and contributing to a SEP IRA is the employer’s tax return deadline, including a six-month extension period if one is filed. This means that a sole proprietor with a tax year 2022 filing deadline of April 15, 2023 has until October 15, 2023 to open and contribute to a SEP IRA if an extension is requested. An S corporation with a filing extension would have until September 15 because the tax return filing deadline is March 15, not April 15.
The SEP IRA distribution rules are the same as the traditional IRA rules. Distributions are taxed at the current time
Income tax rates in the year of distribution. If the employee is under 591⁄2, the 10 percent early distribution penalty may apply. Exceptions to the early penalty are:
- Reaching the retirement age of 591⁄2
- death of the participant
- disability of the participant
- Qualified university expenses
- Qualifying First-time Home Purchase (up to $10,000 per life)
- Unreimbursed medical expenses (greater than 10 percent of adjusted gross income; 10 percent if younger than 65)
- Health insurance premiums paid during unemployment
- Series of essentially equal periodic payments (ie SEPP or 72
For employees aged 72 and over, the required minimum distributions are to be taken annually, even if the employee is still employed.
Paperwork requirements vary from institution to institution, so it is important to consult a financial advisor if you are considering setting up a SEP IRA. Generally, an adoption agreement and IRS Form 5305 are required. A SEP IRA must be established by the end of your company’s tax filing deadline for that year, including extensions.
Whether you want to maximize your own retirement savings or help your employees save for their own, a SEP IRA could be a great choice for your company’s retirement plan. With the time and effort saved with this simple, low-maintenance plan, you can focus on what matters most – growing your business!
Michael W. Zirbel is a finance professional at 307 Financial Services, LLC at 416 E Main ST. Riverton, Wyoming. 82501. He offers securities as a registered agent of the Commonwealth Financial Network®, member FINRA/SIPC. He can be reached at 307-856-8200 or at [email protected].
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