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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
Contributions to a SEP are tax
deductible and your business pays no taxes on the earnings on the
You are not locked into making
contributions every year. In fact, you decide each year whether, and
how much, to contribute to your employees’ SEP-IRAs.
Generally, you do not have to file
any documents with the government.
Sole proprietors, partnerships, and
corporations, including S corporations, can set up SEPs.
You may be eligible for a tax credit
of up to $500 per year for each of the first 3 years for the cost of
starting the plan.
Administrative costs are low.
As you read through this booklet, here are some
definitions you will find helpful:
Employee – An “employee” is not only someone
who works for you, but also may be a self-employed person as well as an
owner-employee who has earned income. In other words, you can contribute to
a SEP-IRA on your own behalf. The term also includes employees of certain
other businesses you and/or your family own and certain leased employees.
Eligible Employee – An eligible employee is an
Is at least 21 years of age, and
Has performed service for you in at
least 3 of the last 5 years.
All eligible employees must participate in the plan,
including part-time employees, seasonal employees, and employees who die or
terminate employment during the year.
Your SEP may also cover the following employees, but
there is no requirement to cover them:
Employees covered by a union contract;
Nonresident alien employees who did
not earn income from you;
Employees who received less than $500
in compensation during the year (subject to cost-of-living adjustments).
Compensation – The term generally includes the
pay an employee received from you for a year’s work. As the
owner/employee, your compensation is the pay you received from the company.
Employers must follow the definition of compensation included in 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
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:
Receive and invest contributions, and
Provide each participant with a notice of employer
contributions made each year and the value of his/her SEP-IRA at the end
of the year.
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:
A SEP-IRA may provide different rates of return and contain
different terms than other IRAs the employee may have;
The administrator of the SEP will provide a copy of any amendment
within 30 days of the effective date, along with a written explanation of
its effects; and
Participating employees will receive a written report of employer
contributions made to SEP-IRAs by January 31 of the following year.
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
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).
How Does a SEP Work?
Quincy Chintz Company decides to establish a SEP for its employees. Quincy
has chosen a SEP because the chintz industry is cyclical in nature, with
good times and down times. In good years, Quincy can make larger
contributions for its employees, and in down times it can reduce the amount.
Quincy knows that under a SEP, the contribution rate (whether large or
small) must be uniform for all employees. The financial institution that
Quincy has picked to be the trustee for its SEP has several investment funds
for the Quincy employees to choose from. Individual employees have the
opportunity to divide their employer’s contributions to their SEP-IRAs
among the funds made available to Quincy’s employees.
When employees participate in a SEP, they must receive certain key
disclosure documents from you and/or the financial institution/trustee:
You must give employees a copy of IRS Form 5305-SEP and its
instructions (or other document that was used to establish the plan). When
new employees become eligible to participate in the plan, they also must
receive a copy of the plan.
You must also provide a written statement containing
information about the terms of the SEP, how changes are made to the plan,
and when employees are to receive information about contributions to their
accounts. (See Step 3 above.)
Your financial institution must provide each employee
participating in the plan with a plain, nontechnical overview of how a SEP
In addition to the information above, the financial
institution provides an annual statement for each participant’s SEP-IRA,
reporting the fair market value of that account.
The financial institution also gives participating employees a
copy of the annual statement filed with the IRS containing contribution
and fair market value information. (See Reporting to the Government
When an employee participating in the plan receives
distributions from his/her account, the financial institution sends
him/her a copy of the form that is filed with the IRS for the individual’s
distribution. (See Reporting to the Government below.)
The financial institution will notify the participant by
January 31 of each year when a minimum distribution is required.
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
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
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
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.
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.
Choose a financial institution to set up your SEP.
Sign the agreement; set up the SEP-IRAs.
Inform your employees about the plan.
Deposit contributions by the due date of your tax return.
Monitor your financial institution/trustee.
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
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:
Choosing a Retirement Solution for Your Small
Publication 3998, provides an overview of retirement plans available to
Retirement Plan Correction Programs, Publication 4224,
provides a brief description of the IRS and DOL correction programs. The
publication also includes a description of programs sponsored by the
Pension Benefit Guaranty Corporation (PBGC) that apply to defined benefit
Retirement Plan Correction Programs CD-ROM, Publication 4050,
provides information on the IRS and PBGC (applicable to defined benefit
plans) correction programs, plus a link to DOL information.
Payroll Deduction IRAs for Small Businesses, Publication 4587,
describes an arrangement that is an easy way for businesses to give
employees an opportunity to save for retirement.
SIMPLE IRA Plans for Small Businesses, Publication 4334,
describes another type of retirement plan designed for small businesses.
401(k) Plans for Small Businesses, Publication 4222, provides
detailed information regarding the establishment and operation of a 401(k)
IRS: 800-TAX-FORM (800-829-3676)
DOL: 866-444-EBSA (866-444-3272)
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),
Related Materials Available From The IRS:
Publication 560, Retirement Plans for Small Business (SEP,
SIMPLE, and Qualified Plans).
Publication 590, Individual Retirement Arrangements
Publication 4405, Have You Had Your Check-Up This Year? for
SIMPLE IRAs, SEPs, and Similar Retirement Plans.
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
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
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