April 13, 2017, 5:45 AM

Business Owners: SEP versus 401K?

By Michael Gibney, CFP®, AIF® and Karl Graf, CPA/PFS, CFP®

Self-employed business owners may not be aware of their options for establishing and funding a retirement plan. As we all know, one of the benefits of working for a large company is that most employers offer an opportunity for employees to contribute a relatively high amount to a retirement plan using pre-tax money. If you are self-employed, you have options as well, and some of these options offer similar contribution levels as big company plans. Two of the most common plans are a simplified employee pension (SEP) and an individual 401(k).

A SEP (which is also available to small business owners with employees) and an individual 401(k) (available only for businesses with no employees other than the business owner’s spouse) are relatively easy to set up and maintain. They can be established with almost any custodian, who can provide a wide variety of investment options to choose from. There should be little to no set-up cost or annual maintenance fees. When an individual 401(k) account balance exceeds $250,000, however, you or your accountant will need to file a regulatory Form 5500, which may introduce a small cost for these types of plans.

A significant difference between the two plan types is that SEPs are funded by employer contributions only while individual 401(k)s can be funded both by employee deferrals and employer contributions (in this case the employee and employer are the same person, but they are treated as separate entities in calculating the contributions). This gives the individual 401(k) a potential advantage over SEP IRAs for smaller or start-up business owners because they can make salary deferrals up to the maximum amount allowed by IRS rules. The 2016 limits for employee deferrals are up to $18,000 for those below age 50, and up to $24,000 for those age 50 and over. The catch-up contribution of $6,000 for those 50 years of age or over does not apply to SEPs because they are funded solely with employer contributions.

In calculating compensation for both a SEP and an individual 401k, a self-employed person reduces income by one-half of self-employment tax and the amount of the contribution.

For example, a business owner aged 53, who has compensation of $50,000 after the deductions noted above, may defer up to $18,000 in regular elective (employee) deferrals plus $6,000 in catch-up contributions to an individual 401(k) plan. The business (employer) could contribute an additional 25% of his compensation to the plan, or $12,500. Therefore, the maximum individual 401(k) contribution for 2016 would be $36,500.

By comparison, for same scenario above the owner would only be allowed to contribute $12,500 to a SEP IRA.

For more established companies, both plans allow maximum total contributions of up to $53,000 for 2016 (increased to $54,000 for 2017). So, if you have a business that will allow compensation in excess of $200,000, both plans may allow you to make similar contributions. (Note: The maximum compensation on which SEP or individual 401(k) contributions can be based is $265,000 for 2016 and $270,000 for 2017).

Both plans follow the same withdrawal rules as company sponsored plans. That is, distributions are taxable in the year received and are generally also subject to a 10% early withdrawal penalty for people below age 59 ½. Both plans can also be rolled over into a traditional IRA when the business ceases or the person retires.

One last planning advantage of a SEP is that you have up until the tax filing deadline to establish the plan (similar to traditional and Roth IRAs), while the individual 401(k) must be established by the end of the calendar year for which you are making the contribution.

Disclosure: Modera Wealth Management, LLC (“Modera”) is an SEC registered investment adviser with places of business in Massachusetts, New Jersey, Florida and Georgia. SEC registration does not imply any level of skill or training. Modera may only transact business in those states in which it is notice filed or qualifies for an exemption or exclusion from notice filing requirements. For information pertaining to Modera’s registration status, its fees and services and/or a copy of our Form ADV disclosure statement, please contact Modera or refer to the Investment Adviser Public Disclosure web site (www.adviserinfo.sec.gov). A full description of the firm’s business operations and service offerings is contained in our Disclosure Brochure which appears as Part 2A of Form ADV. Please read the Disclosure Brochure carefully before you invest or send money.

This article contains content that is not suitable for everyone and is limited to the dissemination of general information pertaining to Modera’s investment advisory and financial planning services and general economic and market conditions. Nothing contained herein should be interpreted as legal, tax or accounting advice, nor should it be construed as personalized investment or financial planning advice. For legal, tax and accounting-related matters, we recommend that you seek the advice of a qualified lawyer or accountant. Past performance is no guarantee of future results, and there is no guarantee that the views and opinions expressed herein will come to pass. Investing in the stock and other markets involves gains and losses and may not be suitable for all investors. Information presented herein was accurate at the time of publication, is subject to change without notice and should not be construed as a solicitation to buy or sell any security or to engage in a particular investment, financial planning, tax or other strategy. Diversification does not guarantee a profit or guarantee against a loss.


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April 11, 2017, 7:48 AM

Maximizing the Value of Your Charitable Contributions

By Andrew Witherell, CFP®

You are a good person and have identified a charitable cause about which you feel strongly enough to support through a gift of money or property. That’s wonderful! You also may know that the tax laws encourage you to give through the allowance of tax benefits for contributions you...

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