About Individual Retirement Accounts for Self-Employed
Most people are used to retirement plans either being part of their employment benefits within a workplace or established in the form of individual retirement accounts (IRAs) held in banks or brokerages. However, the one nuance are those folks who are self-employed and wish to also take advantage of tax-deferred retirement savings. For such savers there is help.
Other People Are Reading
-
SEP-IRA Background
-
For the self-employed, the Simplified Employee Pension IRA (SEP-IRA) provides a tax-deferred retirement savings option that would otherwise not be available. SEP IRAs are flexible enough that they can be just for the business owner alone or they can include employees as well. The details depend on what the business owner needs and how the administration is set up with an IRA administrator. There is no restriction on what type of self-employed business can use a SEP IRA. The authorization includes partnerships, sole proprietors, certain corporations and limited-liability corporations.
Contribution Limits
-
Like every retirement account, the federal government doesn't want the self-employed saving too much in SEP IRAs. While the accounts provide tax-deferred saving benefits, the maximum saving allowed per year is capped ($49,000 annually as of 2010). Similar to a traditional IRA, the contributions made to SEP retain tax deductible status, further benefiting when it comes time for income taxes. The deposits are not taxed until withdrawal, and the applicable tax rate would be the income tax rate bracket in the tax year the withdrawals occur. Early withdrawal prior to 59 years of age would trigger a 10 percent penalty in addition to income taxes owed at that time.
-
Benefits of the SEP
-
For the self-employed who don't plan to work once retired, the SEP IRA probably provides one of the best savings mechanisms. Being able to tax shelter almost $50,000 a year of income can be a significant boost to retirement savings, especially when many people have less income in retirement and thus operate under a lower tax bracket than when the deposited funds were first earned.
Additionally, SEP IRAs have very easy and flexible rules regarding who can open one. A self-employed sole proprietor is just as eligible to start such a retirement program as is the owner of a business with employees.
Caveat Regarding SEP Deposits
-
Depending on whether the SEP IRA owner is a single individual business or a corporation, the IRS has different treatment rules on deposits. If, as part of a corporation, the self-employed owner receives a W-2 for income earned, then he can deposit up to a quarter of annual income into a SEP IRA (so for $100,000 earned $25,000 can be deposited). If the self-employed owner is an individual-business and not a corporation, then deposits are capped at 20 percent of net self-employed income earned (i.e., after business expenses are deducted). Again the max for either situation is $49,000 per year.
Contribution Deadlines
-
SEP IRA deposits have to be made within the tax year and related deadline ending that time period (usually April 15th for the prior tax year). Deposits cannot be retroactive to the prior tax year to take advantage of deposit ability missed. The one exception to the rule is if a filer gets a filing extension past the normal deadline, then the SEP deposit deadline for that tax year is extended as well.
Spousal Deductible IRA
-
An alternative IRA option for a self-employed business owner is to fund a spousal IRA. The tax law allows a limited amount of funds to be deposited to a spouse's account ($5,000 per year in 2010 and $6,000 per year if over age 50). Adjusted gross income needs to be under $167,000. This can be a beneficial additional savings for couples who file taxes jointly and one spouse or both own a business.
-
References
Resources
- Photo Credit business man image by peter Hires Images from Fotolia.com
