SEP IRA Strategies for Small Business Owners
BY: Mahendra
S. Rathore. MBA BA(Hons) CFP® ChFC® CRPC® PMP® CTC® CLU®
There are 28.8 million small
businesses in the United States, according to the U.S. Small Business
Administration, which employ 56.8 million workers. Small businesses (defined as
businesses with fewer than 500 employees) account for 99.7% of all business in
the US. Today more than 15% of workforce is comprised of free lancers and
temporary workers. And thanks to improved technology that makes it easier for
us to work remotely, that number is expected to surge up to 20% by 2020.
Imbedded in these figures is the fact that more and more workers are
“Self-employed”, and responsible for their own retirement savings.
According to a recent survey by Manta,
34 percent of entrepreneurs polled said they did not have a retirement savings
plan. So how do we help them with their retirement goals? Gallup polls suggests that the majority of
small business owners will delay retirement but will still need to retire
eventually. Of those, only 21% tapped
into retirement funds to help their businesses. So, what is the best way for
free lancers, small business owners, consultants, and other self-employed
people to manage their retirement savings.? A SEP IRA maybe the best option for
business owners who want to save for retirement in a tax-advantaged way without
the stress of complicated plan administration.
WHAT
IS SEP IRA?
The Simplified Employee Pension (SEP)
IRA is a tax- advantaged retirement plan for small business owners with or without
employees.
What
type of business is eligible to establish a SEP IRA?
Free lancers, Independent contractors,
Business Owners, Self-employed individuals, with no current business retirement
plan and Individuals earning self-employment income from side jobs outside of
their full-time jobs are eligible. SEP IRA Plans are available to Sole
Proprietors, partnerships, C Corporation, and S Corporations.
Contribution Limits for SEP
IRA:
The
contributions made to an employee's SEP-IRA each year cannot exceed the lesser
of 25% of compensation, or $56,000 for 2019 or 25 percent of an employee's
compensation up to $280,000 in 2019. In the case of self-employed individuals,
the 25 percent limit converts to 20 percent of net self-employment income.
Contributions must be made in cash; you cannot contribute property. A regular
IRA allows you to put away $6,000 in 2019 ($7,000 if you are above age 50 or older).
Important
Aspects of SEPs:
·
Offers tax-deductible contributions for your
business (or for sole proprietor) and tax-deferred growth potential on the
vested plan assets.
·
Discretionary privilege eliminates the need to
make contributions every year, and the amount contributed can change year to
year. This makes it a smart option to consider for businesses with varying
profits.
·
SEP IRAs are easy to set up and easy to
maintain. You don’t need to file the plan or additional paperwork with the IRS.
·
Employers can change contributions percentages
on year to year basis.
·
You can still contribute to a traditional or
Roth IRA
·
All contributions that are made by the
employer on their employee’s behalf are 100% vested from the moment the money
is placed in the account. The employer and employee can withdraw the funds at
any time.
Can an
Employee contribute to both a SEP IRA and traditional IRA?
Yes, one can contribute to both. A traditional IRA
contribution is in addition to any contribution an employer makes to a SEP IRA.
In 2019, the traditional IRA limit is $6,000 and $7,000 for those investors age
50 and over. The same rules and contribution limits apply if you qualify
to fund a Roth IRA.
Can funds
be withdrawn from a SEP IRA before age 59½?
If the original contribution or
earnings are withdrawn before reaching age 59½, there may be an additional 10%
early withdrawal penalty. Loans cannot be made against SEP-IRA’s. Like
traditional IRAs and 401(k)s, SEP IRAs require minimum distributions beginning
at age 70½.
Required
Minimum Distributions and SEP IRA Contributions:
SEP IRA contributions are also permitted after the client reaches
age 70 ½. These contributions are limited to 25% of the client's compensation,
or $56,000 (in 2019), whichever is less. RMD rules do apply once the taxpayer
reaches 70 ½ so that the client may be both making contributions and taking
RMDs allowing clients to continue to work after age 70 ½ (they will have to
take taxable withdrawals in the same year you make deductible contributions).
Consolidation
& Rollover of Retirement Plans into
SEP IRA:
·
You can consolidate your retirement assets by
rolling over 401(k), 403(b) and 457 accounts into a SEP IRA. You can also
roll-over a SIMPLE IRA after you have participated in the account for two
years.
·
Interest, dividends, employer contributions,
and other investment earnings have the potential to grow tax-deferred until
they are withdrawn at retirement. Plus, SEP IRA balances can count toward the
account holder's Preferred Rewards status.
·
Contribution limits can be higher than annual
maximum contribution limit.
Unique
Benefits to Retired Business Owners.
Former business owners can stay
involved and earn income by serving on the board director or consulting. Even
after receiving a lump sum from a sale, many previous business owners can
remain engaged and earn income by serving on the board of directors or
consulting. They may continue helping in day-to-day operations in a reduced but
vital role such as serving clients who've been with the company for years.
If your clients/customers own an
office building or other physical assets, another option for generating
retirement income is to retain those assets and lease or rent them back to the
business. Generally, it is recommended that such arrangements be agreed upon
beforehand and spelled out clearly in the formal transfer or sale agreement
with the new majority owners. That should also be the case if you're turning
the business over or selling it to other family members.
If your client considers transferring
the business as a gift and drawing an income from the new owners., congress
increased the lifetime gift exemption for married couples—and set it to adjust
annually for inflation. The exception is now worth $11.40 million for
individuals and $22.80 million for married couples in 2019. The strategy gives business owners
considerable latitude to transfer a part or all the company as a gift. Your
client might owe taxes on amounts exceeding the exemption, but once the business
is out of your hands, it's no longer parts of your estate, and future growth of
the company won't subject his/her estate to additional taxes.
EASY IRS
FILING REQUIREMENTS:
The IRS outline three steps for
setting up SEP- IRAs: 1. Create formal written agreement. 2. Give eligible EEs
information about SEP-IRA. And 3. Give them a copy of IRS Form 5305-SEP through
your account provider. The Plan setup deadlines are established by ER tax
filing deadlines, plus the extensions, usually April 15. If a small business
owner filed an IRS extension for the 2019 tax year, they could wait until six
months after the filing deadline to open a SEP IRA or contribute.
In
Closing-
Reach out to your clients and
customers for mid-year review of their Business SEP retirement plans to ensure
these are delivering on what was promised.
Advise your client to periodically review their retirement plans for law
changes and do “when” and “what” to changes in their plans. Sometimes, changes
in their business may produce unexpected changes in their plan operations. This
is a great opportunity to offer free independent review to check client’s plans
were in good shape and if anything overlooked previously would offer us prospects
of saving the employees money and improving plan benefits. If you do not use
Form 5305-SEP to implement your plan you should seek professional advice from a
qualified tax accountant or attorney in adopting a SEP.
|
CRITERIA’S |
SEP IRA |
TRADITIONAL IRA |
ROTH IRA |
|
Annual Contribution
Limits |
For your Employees: 25% of EEs Compensation or$56000,
Whichever is lesser. For Self-employed
Workers: 20% of Net Adjusted Self-Employment
Income |
$6000 ($7,000 over age 50 Years) |
$6,000 ($7,000
over age 50 years) |
|
Income Limits |
None |
None |
Single or HOH MAGI >= $137,000 Married Filing Jointly (MFJ) >=
$203,000 |
|
Tax-Deductible
Contributions |
Yes, Up to contribution limit |
Yes, But
Income limit apply if your ER (or Your Spouse’s) offers a 401 (k) |
NO |
|
Tax-Deferred Growth |
Yes |
Yes |
Yes |
|
Tax-Free Withdrawals
in Retirement |
No |
No |
Yes |
|
Withdraw Contributions
at any time without Penalty |
No |
No |
Yes |
|
Penalty-Free
Withdrawals to pay for first Home or Mortgage |
No |
Yes- Up
to $10,000 |
Yes |
Additional
Resources and Information:
• References:
www.irs.gov/ep
• https://www.fundera.com/blog/small-business-statistics
• SEP
Plan FAQ’s- Establishing a SEP
• Small
Business and Self -Employed Tax Center
• https://www.irs.gov/retirement-plans/retirement-plans-faqs-regarding-seps-contributions
• https://www.irs.gov/retirement-plans/traditional-and-roth-iras
• IRS Publication 560 -(Pages 22-24)
for deductions worksheet and calculations.
• Order
a Free Business Owners Checklist through IRS at 800-829-3676
• Refer
to IRS Publication 4285 & 4288 SEP and SARSEP Checklists
• IRS
Publication 560- Retirement plans for Small Business (SEP, SIMPLE and Qualified
plans)
• IRS
Form 5305-SEP: Simplified Employee Pension- Individual Retirement Accounts
Contribution
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