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SEP contributions -- New business


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1. If a new business (first year of operations) wants to make a SEP contribution for its employees, does it need to put special eligibility requirements in its Form 5305-SEP (or adoption agreement or plan document)? The 3-years-out-of-5-years rule is simple enough to understand. So, if a new business would like to make a SEP contribution for Year 1, doesn't it have to adopt less restrictive eligibility requirements (i.e. 0-years-out-of-5-years).

2. If I'm correct in #1, is there any problem with the business amending its eligibility requirement each year, until it hits the 3-years-out-of-5-years standard? The employer's goal is to provide a benefit to its start-up workers, not to give special treatment to everyone hired in subsequent years.

I seldomly run across SEPs and don't have much of a background working with them. Thank you, in advance, for your insights.

Lori Friedman

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I dont work with SEPs often either, but I do have the SEP answer book (although because I barely work with them, its older)

[The 10th Edition of the Simple, SEP, and SARSEP Answer Book is now available (1-800-638-8437). Rolling eligibility, in this situation, would not be a good idea. The zero eligibility (to allow immediate participation for new employer--and owner) will have to remain at zero to prevent discrimination....--gsl]

(Yes, I think they would need to adopt a different eligibility for entry than the 3 of 5.. one of the examples in the SEP book is a startup in 1997 wanting to set up a SEP for 1997, and the eligibility had to be immediate upon employment)

It says in 2:50

"May an employer amend the plan each year to lengthen the service requirement to participate?"

A: "Amending the plan to increase the service requirement for eligibility to participate is permitted. However, if new employees are added to the workforce, the successive amendments are likely to result in prohibited discrimination under 408(k)(3) since the present employees who are highly compensated cannot meet the eligibility requirements the new employees at the time the plan was originally established. Another approach would be to terminate the plan each year and establish a new plan. In either case, it might be prudent to seek written assurance from an ERISA attorney or submit a request for a private letter ruling for such a scheme."

In 2:52, the question is whether future employees can be required to satisfy an age or service condition not applicable to current employees. the answer says that the IRS model and IRS approved prototype plans, while not expressly prohibiting dual eligibility, do not contain provisions for dual eligibility.

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