SEP Retirement Plans For Small Businesses
Looking For An Easy, Low-Cost Retirement Plan? Why Not Consider A SEP?
Simplified Employee Pension plans (SEPs) can provide a significant source of income at retirement by allowing employers to set aside money in retirement accounts for themselves and their employees. Under a SEP, an employer contributes directly to traditional individual retirement accounts (SEP-IRAs) for all employees (including the employer). A SEP does not have the start-up and operating costs of a conventional retirement plan and allows for a contribution of up to 25 percent of each employee’s pay.
Advantages Of A SEP
As you read through this booklet, here are some definitions you will find helpful:
Establishing The Plan
There are just a few simple steps to establish a SEP.
Step 1: Contact a retirement plan professional or a representative of a financial institution that offers retirement plans and choose the IRS model SEP, Form 5305-SEP, Simplified Employee Pension – Individual Retirement Accounts Contribution Agreement, or another plan document offered by the financial institution. Regardless of the SEP document you choose, when filled in, it will include the name of the employer, the requirements for employee participation, the signature of a responsible official, and a written allocation formula for the employer’s contribution.
A SEP may be established as late as the due date (including extensions) of the company’s income tax return for the year you want to establish the plan. For example, if your business’s fiscal year (a corporate entity) ends on December 31 and you filed for the automatic 6-month extension, the company’s tax return for the year ending December 31, 2007, would be due on September 15, 2008, allowing you to make the initial SEP contribution no later than September 15, 2008.
Choosing a financial institution for your SEP is one of the most important decisions you will make, since that entity becomes a trustee to the plan. Trustees work closely with employers and agree to:
Trustees of SEP-IRAs are generally banks, mutual funds, insurance companies that issue annuity contracts, and certain other financial institutions that have been approved by the IRS.
Step 2: Complete and sign Form 5305-SEP (or other plan document, if not using the IRS model form). When it is completed and signed, this form becomes the plan’s basic legal document, describing your employees’ rights and benefits. Do not send it to the IRS; instead, use it as a reference since it sets out the plan’s terms (e.g., eligible employees, compensation, and employer contributions).
Step 3: Give your employees a copy of the Form 5305-SEP (or other plan document, if not using the IRS model form) and its instructions, along with certain information about SEP-IRAs (described in Employee Communications below). The model SEP is not considered adopted until each employee is provided with a written statement explaining that:
Operating The Plan
Once in place, a SEP is simple to operate. Your trustee will take care of depositing the contributions, investments, annual statements, and any required filings with the IRS.
Contributions To SEP-IRA Accounts
Your obligation is to forward contributions to your financial institution/trustee for those employees who participate as described in your plan document. You will want to keep your financial institution aware of any changes in the status of those employees in the plan. As you hire new employees, for instance, you will include them in the SEP if they satisfy the eligibility criteria described in the plan.
Your contributions to each employee’s SEP-IRA account cannot exceed the lesser of $45,000 for 2007 (subject to future cost-of-living adjustments) or 25 percent of the employee’s compensation. These limits apply to your total contributions to this plan and any other defined contribution plans (other SEPs, 401(k), 403(b), profit-sharing, or money purchase plan) you have.
You do not have to make contributions every year. When you contribute, you must contribute to the SEP-IRAs of all participants who actually performed work for your business during the year for which the contributions are made, even employees who die or terminate employment before the contributions are made. Contributions for all employees generally must be uniform—for example, the same percentage of compensation.
Employee salary reduction contributions cannot be made under a SEP.
There are special rules if you are a self-employed individual. For more information on the deduction limitations for self-employed individuals, see IRS Publication 560, Retirement Plans for Small Business (SEP, SIMPLE, and Qualified Plans).
When employees participate in a SEP, they must receive certain key disclosure documents from you and/or the financial institution/trustee:
Reporting To The Government
SEPs generally are not required to file annual financial reports with the Federal government. SEP-IRA contributions are not included on the Form W-2, Wage and Tax Statement.
The financial institution/trustee handling employees’ SEP-IRAs provides the IRS and participating employees with an annual statement containing contribution and fair market value information on Form 5498, IRA Contribution Information.
Your financial institution also will report on Form 1099-R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc., any distributions it makes from participating employees’ accounts. The 1099-R is sent to those receiving distributions and to the IRS.
Participants cannot take loans from their SEP-IRA.
However, participants can make withdrawals at any time. These monies can be rolled over tax free to another SEP-IRA, to another traditional IRA, or to another employer’s qualified retirement plan (provided the other plan allows rollovers).
Money withdrawn from a SEP-IRA (and not rolled over to another plan) is subject to income tax for the year in which an employee receives a distribution. If an employee withdraws money from a SEP-IRA before age 59½, a 10 percent additional tax generally applies.
As with other traditional IRAs, participants in a SEP-IRA must begin withdrawing a specific minimum amount from their accounts by April 1 of the year following the year the participant reaches age 70½. For the year following the year in which a participant reaches age 70½, he/she must withdraw an additional required minimum distribution amount by December 31 of that year, and annually thereafter. The financial institution/trustee will notify the participant by January 31 of each year when a minimum distribution is required. (See IRS Publication 590, Individual Retirement Arrangements (IRAs), regarding required distributions.)
Monitoring The Trustee
As the plan sponsor, you should monitor the financial institution/trustee to assure that it is doing everything it is required to do. You should also ensure that the trustee’s fees are reasonable for the services it is providing. If the trustee is not doing its job properly, or if its fees are not reasonable, you should consider replacing the trustee.
Terminating The Plan
Although SEPs are established with the intention of continuing indefinitely, the time may come when a SEP no longer suits the purposes of your business. When that happens, consult with your financial institution to determine if another type of retirement plan might be a better alternative.
To terminate a SEP, notify the financial institution that you will not make a contribution for the next year and that you want to terminate the contract or agreement. Although not mandatory, it is a good idea to notify your employees that the plan will be discontinued. You do not need to give any notice to the IRS that the SEP has been terminated.
Mistakes … And How To Correct Them
Even with the best of intentions, mistakes in plan operation can happen. The U.S. Department of Labor and the IRS have correction programs to help employers with SEPs correct plan errors, protect participants’ interests, and keep the plan’s tax benefits. These programs are structured to encourage early error correction. Ongoing review makes it easier to spot and fix mistakes in the plan’s operations. A booklet on the DOL/IRS correction programs is listed in the Resources section below.
Your SEP – A Quick Review
The U.S. Department of Labor’s (DOL’s) Employee Benefits Security Administration and the IRS feature this booklet and other information on retirement plans on their Web sites:
www.dol.gov/ebsa - Click on “Compliance Assistance for Small Employers” and on “Publications/Reports” for information to help you understand and operate your SEP retirement plan. This Web site also has information to help your employees understand the importance of saving for retirement.
www.irs.gov/ep - Click on “Plan Sponsor/Employer.” This Web site is filled with plain-language information that will help you maintain your SEP properly. All the IRS forms and publications mentioned in this booklet are available here.
In addition, the following jointly developed publications are available on the IRS and DOL Web sites and can be ordered through the toll-free numbers listed below:
IRS: 800-TAX-FORM (800-829-3676)
Related Materials Available From DOL:
DOL sponsors two interactive Web sites – the Small Business Advisor, available at www.dol.gov/elaws/pwbaplan.htm, and, along with the American Institute of Certified Public Accountants (AICPA), www.choosingaretirementsolution.org.
Related Materials Available From The IRS:
SEP Retirement Plans for Small Businesses is a joint project of the U.S. Department of Labor's Employee Benefits Security Administration (EBSA) and the Internal Revenue Service.
It is available on the Internet at: www.dol.gov/ebsa. For a complete list of publications or to speak with a benefits advisor, call toll free: 1.866.444.EBSA (3272). Or contact the agency electronically at www.askebsa.dol.gov.
SEP Retirement Plans for Small Businesses (IRS Publication 4333) is also available from the Internal Revenue Service at: 1.800.TAX.FORM (1.800.829.3676) (Please indicate publication number when ordering.)
This material is available to sensory impaired individuals upon request: Voice phone: 202.693.8513, TDD: 202.501.3911.
This publication constitutes a small entity compliance guide for purposes of the Small Business Regulatory Enforcement Fairness Act of 1996.