Setting Up A SEP-IRA You can set aside retirement money even though you're the boss.
By Susan Caskey
Opinions expressed by Entrepreneur contributors are their own.
Cooking for an easy way to cut your business taxes? Open atax-deferred retirement account created just for small-businessowners. One plan, the Self-Employed Pension-Independent RetirementAccount, also known as the SEP-IRA, is designed to be easy to openand maintain, while taking advantage of tax-free investing.
The SEP-IRA account is available to anyone earning income fromself-employment. You can open a SEP-IRA whether you are runningyour business part time or full time, and whether your company isstructured as an S corporation, a partnership or a soleproprietorship. Of the three major plans--the Keogh, SEP-IRA and,for the 1997 tax year, the Savings Incentive Match Plan forEmployers (SIMPLE), only the SEP-IRA permits contributions even ifyou're covered by another plan, such as a 401(k), at anotherjob. A SEP-IRA is as easy to open as a standard IRA account andoffers the most flexible funding options.
Its flexibility is what sets the SEP-IRA apart from otherretirement plans. Annual contributions can be as little as zero andas high as 15 percent of your net profit, for a maximum of$24,000--much higher than the $2,000 maximum for an individual IRA.In the years when your business is booming, you can contribute themaximum, and in leaner years, you can contribute less. And you caneven wait as late as April 15 to open an account and make acontribution for the previous tax year.
One big advantage of opening a SEP-IRA is the possible taxbenefit. Contributions are tax-deductible for the year in whichthey are made. As with other retirement plans, yourcontributions--plus the earnings, dividends and interest on yourinvestments--grow, tax-free, until you withdraw the funds after age59 1|2. If you take the funds out before that time,however, the withdrawn amount is fully taxable and may be subjectto a 10-percent penalty.
Small-business owners often start with a SEP-IRA plan, switchingto another type of plan later, as their businesses grow.
Joanne Sammer, a marketing-communications consultant in PointPleasant, New Jersey, opened her SEP-IRA account in 1995 whilestill operating her business part time. "Because I had no ideawhat my income would be in the first couple of years, I neededsomething to which I could contribute as much or as little as Iwanted," says Sammer. "I had thought about opening aKeogh, but the paperwork is more involved, and I just didn'twant to be bothered."
Betsy and John Caruso did just the opposite. When they startedtheir mailing-services company, Signed Sealed Delivered Inc., inNorristown, Pennsylvania, their financial planner recommended theyinvest in a Keogh plan so they could take advantage of the highercontribution limits. But when they incorporated Carusos switched toa SEP-IRA, because Keogh plans are not available tocorporations.
Betsy prefers to leave the management of their SEP-IRA to anexpert: "We rely on the advice of our financial planner, andreview our needs at least annually," she says.
Even when your business grows larger, you can continue to investin a SEP-IRA plan. John Seiffer, a business coach and owner of twocompanies in Bethel, Connecticut, has had a SEP-IRA for three yearswhile his businesses have grown in gross revenues to more than halfa million dollars. "It's important not to have all yourmoney tied up in your business," Seiffer says."Diversification can actually help you make better businessdecisions."
A major factor when considering a SEP-IRA is the impact ofextending benefits to employees. SEP-IRA rules require that abusiness fund a retirement account for any employee that has workedfor the company for three of the last five years and has earnedmore than $400 in the previous year. The percentage you mustcontribute for a qualifying employee is the same percentage youcontribute for yourself. If, for example, you're contributing15 percent of your net income to your own account, you'll alsohave to invest 15 percent of each employee's income in theplan.
Steve Sanders, a registered investment advisor who offers adviceon CNBC's "The Money Club," suggests that youconsider the number of people your business employs, an estimate ofemployees' contributions to a plan, and your matchingcontribution as the employer when determining whether or not aSEP-IRA is right for your business. "Setting up a SEP-IRA or aSIMPLE IRA affords employees an opportunity to save for retirementand can foster goodwill between the owner and employees,"Sanders says.
A big mistake some small-business owners make is thinking theycan't afford to fund a retirement plan in lieu of puttingprofits back into the business. Don't ignore the value ofinvesting early. If, starting at age 35, you invested $3,000 eachyear with a 14 percent annual return, you would have an annualretirement income of nearly $60,000 at age 65. But $5,000 investedat the same rate of return beginning at age 45 only results in$30,700 in annual retirement income. The value of tax-freeinvesting over time means it's best to start right away, evenif you start with small increments.
Where can you go to open a SEP-IRA account? Banks, investmentcompanies, full-service or discount brokers and independentfinancial advisors all offer SEP-IRA plans. Many of theseinstitutions also offer self-managed brokerage accounts where youcan combine investments in mutual funds, stocks, bonds andcertificates of deposit (CDs).
Note that some firms charge an annual fee for maintaining aSEP-IRA, which can often be waived by setting up automatic depositsor maintaining minimum balances.
You also have as many investment choices for your SEP-IRA as youwould have for an IRA account: CDs, money-market accounts, mutualfunds, individual stocks and bonds or a combination of any or allof the above.
As with other investments, you should determine your risktolerance and your financial goals. Reading more about personalfinance can help you determine your retirement needs. Mostfinancial planners can tell, just by talking to you, what your risktolerance and your financial goals are.
For new retirement accounts, though, Sanders recommends mutualfunds. "Mutual funds provide options ranging from conservativeto aggressive and, most importantly, provide diversity ofinvestment," Sanders says. With mutual funds, you have achoice of investing in everything from stocks and bonds to foreigninvestments. Most mutual funds require a minimum of just $500 toopen.
Whether you open a SEP-IRA account or another retirement vehiclefor your business, it pays--this year in tax savings and later inretirement--to start right away.
Words Wisdom
Financial institutions are becoming more aware of the potentialinvesting power of the small-business market. Fidelity Investments,a financial services company in Boston, has tailored products andservices to small-business needs. Wendy Taussig, director ofmarketing for small-company retirement plans at FidelityInvestments, describes her company's focus on smallbusiness:
Q: Why is it important for a small-business owner to opena SEP-IRA or other account?
A: While 80 percent of big businesses offer retirementplans, only 20 percent of small companies have set up plans. Manysmall-business owners are at risk of having insufficient fundssaved for retirement. Opening an account has the immediategratification of cutting taxes, while providing benefits for thefuture.
Q: In what circumstances?
would you suggest opening a SEP-IRA instead of another type ofretirement account?
A: A SEP-IRA is for a very small start-up business withfew employees. It offers a big tax deduction without any additionaltax forms to be filed. Sole proprietors, consultants andfreelancers can all open accounts and can contribute to a SEP-IRAin addition to any other retirement plans in which theyparticipate.
Q: What suggestions would you make for investmentvehicles?
A: I recommend a small-business owner sit down with afinancial planner to discuss and learn about all their options, anddesign a plan that fits their needs. Generally, for retirement,which can be as many as 25 years away, small-business owners shouldlook at good long-term growth investments.
Contact Sources
Joanne Sammer, (908) 714-0611, sammer@webspan.net
Sanders Financial, The Atlantic Bldg., #1600, 260 S. Broad St.,Philadelphia, PA 19102, (800) 613-2048
John Sieffer, (203) 790-1856, john@coachingworks.com
Signed Sealed Delivered Inc., 317 W. Germantown Pike,Norristown, PA 19403, (610) 275-0228
