Introduction to SEP IRA Simplified Employee Pension Plan

By Pinyo, on February 17, 2009

In my TurboTax Online Review, I mentioned that I owe some federal income tax and is thinking about opening a SEP IRA, or a Simplified Employee Pension Plan. Aside from reducing my tax liabilities, I want to maintain my safe harbor from having to pay quarterly income taxes in 2009.

Since I am already doing my research, I thought that I would share some information with you.

What Is The SEP IRA Self-Employed Retirement Plan?

SEP IRA is one of the many retirement plans designed to help self-employed Americans and small-business owners save for their retirements. With a SEP IRA, you can contribute up to 25% of your compensation with a maximum contribution limit of $46,000 for the 2008 tax year, and $49,000 for 2009. Contributions are tax deductible and your savings grows tax-deferred until withdrawn. Upon withdrawal, or conversion to a Roth IRA, you will pay taxes on the amount withdrawn or converted at your regular tax rate.

You are eligible to contribute to a SEP IRA if you are a sole proprietor, in a partnership, or a business owner.  Also, you are eligible if you earn any self-employed income, even if you are already covered by a retirement plan at your full-time job. The contribution deadline is usually April 15 of the following year — i.e., I have up to April 15, 2009 to contribute to my 2008 SEP IRA.

Here’s a good article about 2009 SEP IRA Rules and Limits from a CERTIFIED FINANCIAL PLANNER™ professional.

Advantages of SEP IRA

• Contributions to SEP IRA are deductible for income taxes purpose.
• Your investment grows tax-deferred until withdrawn.
• Wide investment options similar to Traditional IRA and Roth IRA.
• Easy to set up. Any brokerage firm or financial institution will be able to assist you.
• You can contribute to SEP IRA in addition to other retirement plans, such as 401k, Traditional IRA and Roth IRA
• No phase out limitation regardless of your income.

Limitations of SEP IRA

• Contribution limit is 25% of your compensation.
• There is a maximum contribution limit of $46,000 for the 2008 tax year, and $49,000 for 2009.
• You must have a written agreement to provide benefits to all eligible employees. Note the name, Simplified Employee Pension Plan
• There is 10% withdrawal penalty fee if you withdraw any money before you reach the age of 59 1/2.

Alternatives to SEP IRA

In addition to SEP IRA, there are a few more retirement savings options that I’ll be exploring in future articles. These include:

• Keogh Plan
• SIMPLE IRA
• Solo 401(k) Plan

At his point, I am waiting for my copy of TaxCut to come from Amazon. I am planning to recheck my numbers one more time before I open my SEP IRA account with TradeKing.

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Pinyo is the brain behind Moolanomy personal finance blog and a few other web sites. If you like this article, please subscribe for free daily email updates.

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