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Simplified Employee Pensions, known as SEPs,
represent an easy, low-cost retirement plan option for
employers. Instead of establishing a separate retirement plan,
in a SEP the employer makes contributions to his or her own
Individual Retirement Account (IRA) and the IRAs of his or her
employees, subject to certain percentages of pay and dollar
limits. Employers who establish SEPs can:
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Make tax deductible contributions to their
own and their employees' IRAs.
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Omit or reduce contributions in years when
contributions are unaffordable.
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Avoid the administrative costs and the reporting
requirements of conventional plans.
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Whether a SEP is appropriate for your business will
depend on factors such as revenue, firm size and the age, compensation and
retirement needs of the business owner and work force. You may want to
discuss other retirement plan options with a professional advisor.
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SEPs are retirement programs established by you, as an employer, which
allow you to provide retirement benefits for yourself and your employees
without paying the start-up and operating costs of conventional plans.
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SEPs allow an employer to establish and make contributions to IRAs. The
two critical differences between SEP-IRAs and other IRAs are that:
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SEP contributions are generally made by employers, not
employees.
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The amounts contributed to SEPs can be much larger
than the amounts contributed to IRAs.
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As a general rule, up to 15 % of each employee's pay, including your own,
can be put into a SEP-IRA each year.
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Advantages for you as an employer:
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A SEP can provide a significant source of income at
retirement.
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Contributions to a SEP are tax deductible and your
business pays no taxes on the earnings on a SEP's investments.
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You are not locked into making contributions in future
years. You can decide each year whether to pay into the SEP and how
much to contribute.
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Once you put money into a SEP you have no further
responsibility for the amounts contributed. The funds are managed by a
financial institution.
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A SEP can be established and operated without the
administrative expenses, consulting fees or commissions usually
associated with maintaining a conventional retirement plan.
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You ordinarily do not have to file any documents with
the government.
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SEPs can be set up by sole proprietors, partnerships
and corporations, including S corporations.
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You can deduct contributions to a SEP for a previous
tax year if you make contributions by the due date of the employer's
tax return, including any extensions.
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The money you contribute to your employees' SEP
accounts, as well as the investment earnings, belongs to them, even if
they stop working for you.
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Employers' contributions to the SEP-IRA are not
included in employees' income for income tax purposes.
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Employees pay no taxes on the amounts in their SEP
accounts until they start withdrawing the funds.
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Employees can change the financial institution where
their SEP is invested.
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In case of an employee's death, the assets in a SEP
will go to someone the employee has chosen.
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SEP contributions can continue until employees retire,
but they must start withdrawing assets from a SEP when they reach age
70˝.
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You can set up a SEP by using the Internal Revenue Service's "Model
SEP" agreement Form 5305-SEP. All you have to do is:
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Decide the percentage of pay you want to contribute to
the SEP. The contribution is limited to 15% of pay or $24,000*
(for 1997), whichever is smaller. A uniform percentage of pay
must be contributed for each employee. This number is indexed
for inflation each year.
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Fill out Internal Revenue Service Form 5305-SEP, a
quarter-page form with six blank spaces. This form is not filed with
the Internal Revenue Service.
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Set up an IRA at a financial institution to receive
your SEP contributions. An IRA can be set up by or for your employees
to receive the contributions you make for them.
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Mail the SEP contributions to the financial
institutions.
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Give employees eligible to be included in the SEP a
completed copy of the Form 5305-SEP and the other documents and
disclosures listed in the instructions, including an annual statement
to each participating employee of the amounts contributed to their
account for the year.
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No other reporting or disclosure ordinarily is required.
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You cannot use the IRS "Model SEP" if you currently maintain any
type of qualified retirement plan or have ever maintained a pension plan
for yourself and your employees that promised to pay specific benefits at
retirement -- a "defined benefit" pension plan. You also cannot
use the Model SEP if you have any eligible employees for whom accounts
have not been established. For this purpose, eligible employees include
certain individuals who have a specific relationship to the employer. For
example, eligible employees for purposes of SEP contributions include
"leased employees", and members of an "affiliated" or
"commonly controlled" group of employers of which you are a
member. These are technical terms that are defined in the Internal Revenue
Code. For example, the term " leased employees" is defined in
section 414(n) of the Code. The term, "affiliated group" is
defined in Code section 1504, and the term "controlled group" is
defined in Code section 1563. If you believe any of these terms apply to
you, you should consult a professional advisor.
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Although using the IRS Form 5305-SEP is an easy way to set up a SEP, you
do not have to use this model agreement. Many financial institutions have
their own SEP arrangements that have been approved by the Internal Revenue
Service. In addition, employers may design their own SEP subject to the
legal requirements.
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If you use a non-model SEP, the law allows you to take into account Social
Security contributions you made for your employees. If you want to do
this, consult your professional advisor.
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Generally, any employee who performs services for certain affiliated or
commonly controlled employers (see the discussion on page 6 regarding
these terms) must be included in a SEP. However, there are five exceptions
to this general rule. Employers may exclude from the SEP:
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Employees who have not worked for the company during
three out of the last five years.
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Employees who earn less than $400* (for 1997) a year.
This number is indexed for inflation each year.
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Employees who have not reached age 21 during the
calendar year for which contributions are made.
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Employees covered by a collective bargaining
agreement, if retirement benefits were the subject of good-faith
bargaining.
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Non-resident immigrants who do not earn U.S. source
income from you.
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Starting January 1, 1997, employers may no longer set up Salary Reduction
SEPs. However, the Small Business Job Protection Act of 1996 (Public Law
104-188) established Savings Incentive Match Plans for employees involving
IRAs--known as the SIMPLE IRA. Employers may set up a SIMPLE IRA which
allows salary reduction contributions of up to $6,000 annually.
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If an employer had a salary reduction SEP in effect on December 31, 1996,
the employer may continue to allow salary reduction contributions to the
plan. Employees are generally permitted to contribute up to 15% of pay or
$9,500* (for 1997) a year, whichever is less, to a Salary Reduction SEP,
provided the employee earns at least $400 (for 1997). This number is
indexed for inflation each year.
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There are certain maximum permissible amounts that may be contributed on
behalf of company owners and certain highly-paid employees ("highly
compensated employees") in comparison to amounts contributed for
other eligible employees. The amount (percentage of pay) contributed for
these highly compensated employees cannot be more than 125% of the average
percentage of pay contributed by all other eligible employees. Employers
must notify employees by March 15 of the following year if the
contributions for the preceding year exceed the limits.
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An employer can have both an employer-funded SEP and a Salary Reduction
SEP. The total amount contributed for any employee, however, cannot be
more than 15% of pay.
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Financial institutions authorized to hold and invest SEP contributions
include banks, savings and loan associations, insurance companies, certain
regulated investment companies, federally-insured credit unions and
brokerage firms. SEP contributions can be put into stocks, mutual funds,
money market funds, savings accounts and other similar types of
investments.
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You and your employees will receive a statement from the financial
institutions investing your SEP contributions both at the time you make
the first SEP contributions and at least once a year after that. Each
institution must provide a plain-language explanation of any fees and
commissions it imposes on SEP assets withdrawn before the expiration of a
specified period of time.
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If an employer maintains a SEP for its
employees, can the employees also make contributions to Individual
Retirement Accounts?
Yes. If the employees choose to do so, they may
combine IRA and SEP contributions in one account. NOTE: Because SEP
contributions make an individual an "active participant in a
qualified plan" for IRA purposes, IRA contributions of certain
employees may not be tax deductible. See IRS Publication 590.
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Can an employee eligible to participate in a
SEP choose not to participate?
No. All eligible employees must participate. An
employer can set up an IRA for the employee at a financial
institution and make the appropriate contribution.
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Does the employer have to pay Social Security
or federal unemployment compensation taxes on SEP contributions for
employees?
No.
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Do employers in companies with Salary
Reduction SEPs have to pay Social Security taxes on their employees'
pre-tax contributions?
Yes. In addition, employees have to pay their
portion of Social Security taxes.
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When are income taxes paid on money in a SEP
account?
Income taxes are paid when money is withdrawn
from a SEP account.
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When can money be withdrawn from a SEP
account?
SEP money can be withdrawn without penalty at age
59˝. Earlier withdrawals are generally subject to a 10%
additional income tax unless the participant becomes disabled or
receives distributions in the form of an annuity that are part of
substantially equal payments over life or life expectancy.
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Call the nearest office of the Internal
Revenue Service and ask for the latest Publication 590.
For copies of this brochure, call EBSA's Toll-Free
Employee & Employer Hotline at: 1.866.444.EBSA (3272).
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