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Top 5 Things Business Owners Should Know About a SEP IRA

As a small business owner you may be looking for avenues to provide your employees with options to contribute to their nest egg. Offering to help your employees when it comes to retirement options can benefit your business in more than one way. If you're seeking alternative options to a formal profit sharing plan, a SEP IRA (simplified employed pension individual retirement account) may be the answer. 

With low administrative fees, flexibility, and lower costs, here are five other facts employers (and self-employed persons) need to know about SEP IRAs:

1. SEP IRAs Differ From Regular and Roth IRAs

As distinct from a Regular IRA and Roth IRA’s, a SEP IRA has a twist. SEP IRAs are tied to the company. The business owner, who can also be a self-employed person) sets up the account and makes all contributions to his or her own account, including the accounts of the eligible employees. 

The employer gets the tax break, and the employee is likewise not taxed on SEP IRA contributions. The tax liability begins when the funds are withdrawn.

2. Contribution Limits Are Vastly Higher Than Other IRAs

The deadline for making tax-deductible IRA contributions for a given tax year is usually April 15. Regular and Roth IRAs have a contribution limit of $5,500 (for 2018 — also add $1,000 for catch-up contributions if you are age 50 or older). 

The SEP IRA, on the other hand, has a contribution limit for the 2018 tax year of $55,000, or 25 percent of the employee’s income, whichever is lesser. There are no minimum contributions required, though.

The SEP IRA can be opened and funded after the tax year ends up through any tax filing extension. SEP IRAs provide a flexible way for employers to look at the end-of-year company financial state and make SEP IRA contributions accordingly.

3. SEP IRA Eligibility Requirements Are Different From Other IRAs

An “eligible employee” is both the business owner and a qualified employee who:

  • Is age 21 or older.
  • Has worked for the employer in at least three of the previous five years.
  • Has earned at least $600 in the eligibility years from 2015 through 2018).

Younger employees can also be included when they have worked for shorter periods of time in the years before they turn 21. Also, be aware that if you are a business owner and make a contribution to your SEP IRA account, you must also make the same percentage contribution to your eligible employees’ accounts.

3. As a Business Owner, You Can Exclude Certain Employees From Sep IRA Contributions

Those employees include:

  1. Those covered by a union agreement.
  2. Employees whose retirement benefits are a result of collective bargaining.
  3. Nonresident alien workers who receive no compensation from the employer.

Employees are 100 percent vested in their SEP IRA accounts. Whatever the employer contributes immediately belongs to the employee. The funds can be transferred directly, or rolled over into other IRAs.

4. You Must Begin Withdrawing From Your Sep Ira at Age 70.5

Just like regular IRAs, you must begin distributing its funds when you reach age 70.5. Those withdrawals will be subject to ordinary income tax rates. You can invest your SEP funds in securities like stocks, bonds and mutual funds. However, if you keep working past age 70.5, you can continue to make SEP IRA contributions.

Early withdrawals (before age 59.5) are subject to a 10 percent tax penalty, unless the withdrawal was for medical expenses more than 10 percent of gross income. Also, first-time homebuyers can withdraw up to $10,000 from their SEP IRA.

5. SEP IRAs Are Just the Thing for Many Business Owners

If you have a small family business or a limited number of employees. The SEP IRA has many of the features of a regular IRA, and the contributions are subtracted from your taxed income. The biggest advantage is the large amounts you can set aside for retirement.

Setting up a SEP IRA is simple and inexpensive. You can open a SEP IRA at any bank, mutual fund company or brokerage firm with low (or no) annual account fees. If you are looking for an incentive to lure and retain good employees, a SEP IRA, where the employee contributes nothing, is a definite plus.

This content is developed from sources believed to be providing accurate information, and provided by Twenty Over Ten. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation. The opinions expressed and material provided are for general information, and should not be considered a solicitation for the purchase or sale of any security.