Legal   |   ADV   |   Privacy   |   CRS

Even Micro-Businesses and the Self-Employed Can Offer a Retirement Plan with a SEP-IRA


Many small businesses don’t offer retirement plans to their employees because they think their company is too small to sponsor a plan. According to a survey recently conducted by Capital One, six out of 10 small business owners fail to sponsor a retirement plan for this very reason.

Micro-businesses and the self-employed often face the biggest obstacles to offering a retirement plan. Sponsoring a traditional 401(k) plan, for instance, requires filling out dozens of pages of documents, including plan adoption agreements and specific addenda to incorporate new pension laws, as well as complying with myriad regulatory requirements. 

Minimal Hassle and Paperwork

However, there’s some good news for you if you’re a micro-business owner or self-employed individual and you want to sponsor a retirement plan. You can open a SEP-IRA with minimal hassle and paperwork. In fact, a SEP-IRA can be opened by filling out just one single form.

SEP-IRA stands for Simplified Employee Pension-Individual Retirement Account. The simplicity of opening and maintaining a SEP-IRA is one reason why this is such a popular retirement plan among micro-businesses and the self-employed.

Another reason is the high annual contribution limits. For tax year 2019, you can contribute up to $56,000 or 25 percent of annual compensation (whichever is less) to SEP-IRAs established for yourself and your employees. This goes up by $1,000 to a total of $57,000 annually beginning in tax year 2020.

Compare this to a SIMPLE IRA, which only allows an annual contribution of up to $13,000 in tax year 2019, or $16,000 for those who are 50 years of age or over. Meanwhile, the elective deferral limit for SIMPLE 401(k)s is $19,000, or $25,000 for employees who are 50 years of age or over, in tax year 2019.

The Nuts and Bolts of SEP-IRAs

When you open a SEP-IRA, your business will make tax-deductible contributions to IRAs established for yourself and your employees. These funds can then grow on a tax-deferred basis, which can result in a healthy retirement nest egg over the long term.

Note that employees can’t make contributions to their own SEP-IRAs — the accounts are 100 percent employer-funded. If you’re self-employed, your business will make contributions to an account in your name.

One challenge sometimes faced by the self-employed when it comes to determining the annual SEP-IRA contribution limit is the fact that the 25 percent of annual compensation limit is calculated based on net, not gross, income. So self-employed individuals must first remove the employer portion of payroll tax liability and the impact of the contribution on net income. As a result, the self-employed can typically contribute around 20 percent of gross income to a SEP-IRA.

Also, the same percentage of compensation must be contributed to all employees’ SEP-IRAs. Therefore, micro-business owners and the self-employed can’t contribute large amounts to their own accounts without perhaps having to do the same for their employees. However, this percentage can be changed annually based on your company’s profitability. So if your business has a down year, you can lower contributions for yourself and your employees.

Not Too Late to Make 2019 Contributions

More good news about SEP-IRAs: There’s still time to set up a SEP-IRA and make tax-deductible contributions for tax year 2019. You have until April 15, 2020, to establish a new SEP-IRA for yourself and your employees. You have until this same date or your 2019 tax-filing deadline (including extensions) to make 2019 SEP-IRA contributions.

Making a 2019 SEP-IRA contribution between now and your tax-filing deadline could help you lower your 2019 tax bill. Be sure to talk to your tax advisor about your specific situation.

No More Excuses

With the availability of the SEP-IRA, there’s no more excuse for not setting up a retirement plan for yourself and your employees — even if you’re a micro-business owner or self-employed individual.

Please contact us if you have more questions about retirement planning and SEP-IRAs in particular.

The commentary is limited to the dissemination of general information pertaining to Frontier Wealth Management, LLC’s (“Frontier”) investment advisory services. This information should not be used or construed as an offer to sell, a solicitation of an offer to buy or a recommendation for any security, market sector or investment strategy. There is no guarantee that the information supplied is accurate or complete. Frontier is not responsible for any errors or omissions, and provides no warranties with regards to the results obtained from the use of the information. Nothing in this document is intended to provide any legal, accounting or tax advice and Frontier does not provide such advice. This information is subject to change without notice and should not be construed as a recommendation or investment advice. You should consult an attorney, accountant or tax professional regarding your specific legal or tax situation.