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Frequently Asked QuestionsSEP Frequently Asked Questions General General
A SEP is a simplified employee pension plan. A SEP plan provides employers with a simplified method to make contributions toward their employees’ retirement and, if self-employed, their own retirement. Contributions are made directly to an Individual Retirement Account or Annuity (IRA) set up for each employee (a SEP-IRA). See Publication 560 for detailed SEP information for employers and employees. Note: The IRS has a system of correction programs for sponsors of retirement plans, including SEPs, which are intended to satisfy Internal Revenue Code requirements but have not met the requirements for a period of time. This system, the Employee Plans Compliance Resolution System (EPCRS), permits employers to correct plan failures and thereby continue to provide their employees with retirement benefits on a tax-favored basis. See “Correction” in the Retirement Plan Community website for information on EPCRS. You establish a SEP by adopting a SEP agreement and having your eligible employees establish SEP-IRAs. There are three basic steps in setting up a SEP, all of which must be satisfied.
3. Do I qualify to set up a SEP? Any employer can establish a SEP. 4. If I have a SEP, can I also have other retirement plans? You can maintain both a SEP and another plan. However, unless the other plan is also a SEP, you cannot use Form 5305-SEP; you must adopt either a pre-approved SEP or an individually designed SEP. 5. If I am employed but also have income from self-employment, can I set up a SEP? Yes. You can set up a SEP for your own business even if you participate in another employer's retirement plan. 6. Is there a deadline to set up a SEP? You can set up a SEP for a year as late as the due date (including extensions) of your business income tax return for that year. 7. How do I amend my SEP plan for EGTRRA? If you're using a prototype plan, you will receive an amended plan from the financial institution that provided you with the plan. If for some reason you don't receive (or haven't yet received) a new plan document, contact your financial institution. While the financial institution provides many administrative services for your plan, it is the responsibility of you - the plan sponsor - to ensure that the plan is kept up-to-date with current law. If you're using a model plan, you should have already adopted an updated model plan by the end of 2002. See Form 5305-SEP. Return to General FAQs Participation
An eligible employee is an individual who meets the following requirements:
You may use less restrictive requirements to determine an eligible employee. 9. What is an example of the 3 of 5 rule? Assume you have a SEP with a requirement that an employee must work for you in at least 3 of the last 5 years (the maximum requirement) to receive an allocation under the plan. To be eligible for the 2005 year, for example, an employee must have worked for you for some time (no matter how little) in any 3 years in the 5-year period 2000 to 2004. Thus an employee that worked for you in 2000, 2003 and 2004, must share in the SEP contribution made for 2005. 10. Are there employees that may be excluded? Yes, you may exclude (a) employees covered by a union agreement whose retirement benefits were bargained for in good faith by the employees’ union and you; and (b) nonresident alien employees who have no U.S. source compensation from you. 11. What happens if an employee elects not to participate? You may establish a SEP-IRA on behalf of an employee who is entitled to a contribution under the SEP if the employee is unable or unwilling to establish a SEP-IRA. Return to Participation FAQs Contributions
12. How much may I contribute to a SEP? Annual contributions you make to an employee’s SEP-IRA cannot exceed the lesser of:
The limits in the preceding sentence apply in the aggregate to contributions you make for your employees to all defined contribution plans, which includes SEPs. You may only consider up to $210,000 in 2005 ($220,000 in 2006 and subject to annual cost-of-living adjustments for later years) of an employee’s compensation. Contributions must be made in cash. You cannot contribute property. 13. What is considered compensation? Are bonuses and overtime included? Compensation considered is defined by the Internal Revenue Code and would include bonuses and overtime. 14. How much may I contribute for myself if I am self-employed? The same limits on contributions made to your employees’ SEP-IRAs also apply to contributions you make to your own SEP-IRA. However, special rules apply when figuring out your maximum deductible contribution. See Publication 560 for details on determining your contribution amount. 15. Must I contribute the same percentage of salary/wages for all participants? Most SEPs, including the IRS model Form 5305-SEP, require that allocations to all employees' SEP-IRAs be proportional to their salary/wages. If you are a self-employed owner, the contribution is based on net profit minus one-half self-employment tax minus the contribution for yourself. See IRS Publication 560 on determining your contribution amount. 16. Can catch-up contributions be made to a SEP? No. SEPs are funded by employer contributions only. However, catch-up contributions can be made to the IRAs that hold the SEP contributions if the SEP-IRA documents allow. The catch-up IRA contribution amount (for employees age 50 and older) is $500 for 2005, increasing to $1,000 for 2006 and later years. 17. Are there other limits on contributions? Yes, if you contribute to another defined contribution plan for your employees, for example, a 401(k) plan, an annual addition limit applies. The annual addition limit for 2005 is the lesser of $42,000 ($44,000 for 2006 and subject to annual cost-of-living adjustments for later years) or 100% of the employee's compensation. In determining this limit, you must include your contributions for your employees to all defined contribution plans, which includes SEPs. 18. Can I still contribute to a SEP if one of my participants or I am over age 70 1/2? You must make contributions for an eligible employee in a SEP, even if the employee is over age 70 1/2. This participant must take minimum distributions, however. 19. Do I have to contribute to the SEP every year? No, you are not required to make contributions every year, but in years you do contribute to the SEP, you must contribute to the SEP-IRAs of all eligible employees. 20. Do I have to make a contribution for a participant who is no longer employed on the last day of the year? A SEP cannot have a last-day-of-the-year employment requirement. If the employee is otherwise eligible, they must share in any SEP contribution. This includes eligible employees who die or quit working before the contribution is made. 21. What is the timeframe for depositing contributions into SEP-IRAs? Contributions for a year must be deposited by the due date (including extensions) for filing your federal income tax return for the year. 22. How much of the contributions I make to my employees' SEP IRAs may I deduct on my tax return? The most you may deduct on your tax return for your contributions to your employees’ SEP-IRAs is the lesser of your contributions or 25% of compensation (Compensation considered for each employee is limited to $210,000 in 2005, $220,000 for 2006 and subject to annual cost-of-living adjustments for later years). If you are self-employed and contribute to your own SEP-IRA, you must make a special computation to figure out your maximum deduction for these contributions. When figuring the deduction for contributions made to your SEP-IRA, compensation is net earnings from self-employment which takes into account the following deductions:
See Publication 560 for details on determining your deduction. 23. Are employer contributions taxable to my employees? No, your contributions to your employees’ SEP-IRA are not included in their gross income, unless they are excess contributions. 24. What are the consequences to my employees and me if I make excess contributions? If you contribute more than is allowed there are tax implications for you and your employees. Excess contributions are included in employees' gross income. If an employee withdraws the excess contribution, and earnings on such amount, before the due date for filing his/her return, including extensions, the employee will avoid a 6% excise tax imposed on excess SEP contributions in an IRA. Excess contributions left in the employee’s SEP-IRA after that time may result in adverse tax consequences to you and the employee. If you contribute more than you may deduct, you may be subject to a 10% excise tax. 25. If my SEP fails to meet the SEP requirements, are the tax benefits for my employees and myself lost? Generally, tax benefits are lost if the SEP fails to satisfy the Internal Revenue Code requirements. However, you can retain the tax benefits if you use one of the IRS correction programs to correct a failure. In general, when correcting a failure under the program, the correction should put employees in the position they would have been had the failure not occurred. See Retirement Plan Corrections Programs for information on the correction programs for SEPs. Return to Contributions FAQs Distributions
26. Can a SEP-IRA be rolled over into a qualified retirement plan (e.g., 401(k), profit-sharing, etc.)? A SEP-IRA can be rolled into a qualified retirement plan, assuming the qualified retirement plan has language permitting such rollovers. 27. Can a SEP-IRA accept rollovers from other plans? A SEP-IRA is treated the same as a traditional IRA. Provided the SEP-IRA document permits rollovers, almost any type of plan distribution can be rolled into it. 28.Are in-service distributions allowed from a SEP? Since a SEP-IRA is an IRA, there are not limitations on distributions. A participant can take distributions at any time. However, in addition to the distribution being taxable, it may be subject to a 10% additional tax if the participant has not reached age 59 1/2. 29. Are hardship distributions allowed from a SEP? As in-service distributions are allowed, so are "hardship" distributions, subject to the same conditions. 30. Must distributions be made to participants if they are over age 70 1/2, if they are still working? What about to the owner of the company? Both the owner and any employees over age 70 1/2 must take required minimum distributions. Unlike qualified plans (e.g., 401(k), profit-sharing, etc.), there is no exception for non-owners who have not retired. 31. How much do I have to take out of my IRA at age 70 1/2? Required minimum distributions apply each year beginning with the year you turn 70 1/2. The required minimum distribution for each year is calculated by dividing your IRA account balance as of December 31 of the prior year by the applicable distribution period or life expectancy. You can determine your applicable distribution period or life expectancy by using the Tables in Appendix C of Publication 590. Table I is used by beneficiaries. Table II is for use by owners who have spouses who are the IRA's sole beneficiary and who are 10 years younger than the owner. Table III is for use by all other owners. 32. If I cash in an IRA account before 59 1/2, what forms do I need to fill out? You will need to file a Form 1040 and show the amount of withdrawal from your IRA. Since you took the withdrawal before reaching age 59 1/2, unless you meet certain exceptions listed in Publication 590 Individual Retirement Arrangements (IRAs) you will need to pay an additional 10 percent tax on early distributions from qualified retirement plans that is reported on Form 1040. You may need to complete Form 5329 Additional Taxes on Qualified Plans (including IRAs) and Other Tax-Favored Accounts, and attach it to the tax return. References:
33. Can the 10% additional tax for an early withdrawal from an IRA be deducted in the Adjusted Gross Income section of Form 1040 as a penalty on early withdrawal of savings? No, the additional 10 percent tax on early distributions from qualified retirement plans does not qualify as a penalty for withdrawal of savings. References:
Return to Distributions FAQs Termination of Plan
34. Does my SEP have to be amended for the new law before it terminates? Generally, the IRS has not required SEPs to be amended for new law prior to termination. Check with your plan professional. 35. Do I still have to fund my SEP in the year of termination? SEPs can be terminated at any time. You can stop funding these plans once they are terminated. 36. What are the notification requirements to participants, etc. when a SEP terminates? When terminating a SEP plan, it is a good idea, although not mandatory to notify your employees that the plan has been discontinued. You may need to notify the financial institution that you chose to handle the plan that you will no longer be making contributions. You may also need to let the institution know that you will terminate the contract or agreement with it. You don't need to notify the IRS of the plan's termination. Return to Termination FAQs
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