Any one able to explain SEP and how to go about setting it up if funds are limited?

Question

SEP- Self employed payment plan in lieu of social security deductions. Mandatory? How to arrange? What percentage of income?

Answer 1

A SEP stands for Self Employed Pension but it can be for employees as well as independent contractors (self employed). You'll need to fill out a 5304 or 5305 form in order to establish a SEP or SIMPLE IRA plan.

Basically, the SEP contribution is either 25% (if an employee) or 20% (if self employed) of your net income minus 1/2 of your self employment tax (social security and medicare taxes or 7.65%) up to $44,000.

If there is an employer setting up the plan for you he/she can contribute a % of gross wage to the plan also. If he does it for one employee he must do it for all. (usually it is 2% or 3% of gross wages earned).

The plan must be set up by the end of the tax year and contributions may be made up until April 15th of the following year. It is best to wait until you do your taxes before defining your contribution amount. This way, you will know the amount you are able to deduct from income as your contribution.

Yes, I said deduct from income. A SEP contribution is a means of deferring taxable income. It is one of the better ways in which to do so, because the limit is up to $44,000, unlike 401(k)'s at 15 to 20 thousand, IRA's at 4 to 5 thousand and Simple Ira's at up to 11,000.

Good luck! and happy saving.

Answer 2

I think you are referring to Simplified Employee Pension under Section 408(k) of the Internal Revenue Code. It's a variation on an IRA. 25% of the participant's compensation (sort of - I know it does not compute but that's the law - for 2006 $220,000 compensation but not more than $44,000). It is supplemental to Social Security. Employers may set it up with most banks, mutual funds, or stock brokers. Employees may make contribtuions.

Answer 3

No, it's NOT in lieu of social security deductions. You still have to pay those.

The SEP can take the place of a 401K or IRA. SEP has different rules from 401K's or IRA's.