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Last updated: 25 Nov, 2018
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By Jason Watson ()
Posted November 23, 2018

Simplified Employee Pension Individual Retirement Arrangement. Yes, the A in IRA does not stand for Account, it technically is Arrangement but if you say Account it’s okay. We know what you mean. But if you call your IRA a 401k, our OCD does not allow us to let that one go. IRAs are not 401ks and 401ks are not IRAs. From what we understand, we can no longer say “our OCD.” Our apologies.

How about this? Our super highly stressful and highly technical profession coupled with the desire to be hyper accurate cannot let you call your 401k plan and IRA and vise versa. Bagels and donuts are both breakfast foods, but that is where it ends. Hopefully that explanation is better than the OCD reference.

Back to business. As an employee, you do not make contributions to a SEP IRA, the business does so on your behalf. And Yes, it is a tax deduction to the business which is essentially a tax deduction to you. The business can contribute 20% of business income (for sole proprietors, single-member LLCs and partnerships) or 25% of your salary (for corporations such as S Corps). There is no catchup provisions since the business is making the contribution.

All eligible employees must have a pro-rata employer contribution. So, if you make $100,000 and your assistant makes $30,000, if the business contributes 10% on your behalf it must do the same for your assistant.

Four reasons why these are fading (but there is a silver lining below)-

  • SEP IRAs require much higher salaries to reach the $56,000 maximum retirement savings for 2019,

  • Pro-rata contributions strictly based on salaries is no more beneficial or less restrictive than a 401k with Safe Harbor, and

  • The administrative costs of 401k plans have been reduced to that of a SEP IRA.

  • Another consideration is that the SEP IRA does not allow for plan loans whereas 401k plans do (up to $50,000 usually).

SEP IRA contributions are due with the associated tax return including extensions (similar to employer contributions in 401k plans). An interesting yet allowed tactic is to always file an extension for your tax returns. This allows you to file your tax returns any time up to the extension deadline, but not make the employer contribution until the extension deadline. Huh? Hang in there on this one. Here is another way of saying it-

You could file an extension on February 1. File your Form 1040 on March 1. And make the contribution on October 15. However, if you skipped the extension filing and simply filed your Form 1040 on March 1, your SEP IRA contribution is due April 15. Weird. Then again we don’t make the rules, we just tell you about them.

SEP IRAs are old school in favor of the 401k plan. Unlike 401k plans which must be implemented before the calendar year is over, SEP IRAs can be used for crisis management after the fact. So December 31st can come and go blowing up your desire to have a self-employed 401k plan, but a SEP IRA can be created after January 1 and allow for previous year contributions and tax deductions. Again, this is crisis management. Proper planning prevents the need for a SEP IRA.

Taxpayer's Comprehensive Guide to LLCs and S Corps : 2019 Edition
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