can a SEP exclude certain employees and when should benefits begin for new employees?

[Lori H]

we use IRS Form 5305-SEP - Simplified Employee Pension - Individual Retirement Accounts Contribution Agreement - as our Foundation's formal SEP plan document. In that document, we currently specify that discretionary contributions will be made to employees' IRAs for all employees who are at least 21 years old and have worked for the Foundation at least 0.5 years (or 6 months) of the immediately preceding 5 years. Our SEP plan document specifies that our SEP plan excludes: (a) employees covered under a collective bargaining agreement, (b) certain nonresident aliens, and © employees whose total compensation during the year is less than $450 (subject to annual cost-of-living adjustments).

The Foundation currently contributes 12.5% of each employee's gross salary or wages earned during the calendar year to the SEP-IRA account specified by the employee.

The first question is whether or not SEP Plan benefits provided under the Form 5305-SEP plan document would apply to all employees on the Foundation's payroll, full-time or part-time regardless of how few average hours are worked during a work-week (as long as all criteria in the first paragraph above are met for a particular employee).

Would there be any way to exclude certain part-time employees (e.g., working less than 20 hours/week) and exclude all full-time or part-time college interns from receiving the SEP benefits under the Form 5305-SEP? Or would we have to discontinue the existing Form 5305-SEP document and then create a new SEP plan document? If so, what kind of hassles or employer risks, if any, would using an alternative SEP plan document entail?

Also, when should SEP benefits begin for a new employee (i.e., the begin date defined as the first payroll run to which SEP benefits would be applied): on the specific date an employee reaches his/her 6-month anniversary (within the 5-year span) or on January 1 of the calendar year that includes the employee's 6-month anniversary (within the 5-year span)?

[SoCalActuary]

You would do better with a profit sharing or money purchase plan to meet your goals.

These plans allow exclusions for job classifications.

To my knowledge SEP's do not. You must cover employees uniformly if they meet the (very low) pay level and the required years of service in your document. You could however amend your existing document to require more than six months service, going as high as 3 years for eligibility.

The PS or MP contribution would be the same for the eligible members, but your plan document could specifically eliminate the classes of employees you don't want to benefit.

You would be required to have a plan administrator and file form 5500. Compare the cost of this against the 12.5% cost of benefits for the people you don't want to benefit. If the cost is favorable, then you are money ahead. If not, then keep your existing plan.

[Gary Lesser]

I agree with SoCalActuary regarding plan choice.

HOWEVER, with regard to the SEP---- SEPs do NOT permit a plan sponsor to use "worked for 6 months" as an eligibility reguirement.

The plan must specify either a "0," "1,", "2" or "3" year service requirment. With a "1" year requirement an employee that worked for the organization in the prior year (with or without pay and for any length of time (5 minutes)) is eligible to participate for the entire current year if they would attain the age 21 by the end of the current year.

In all lilelyhood, your SEP did not cover all eligible employees and may need fixing. Failure to include an eligible employee undoes the SEP for the year. All contributions for year are excess contributions. Numerous penalties apply. Some may apply after fixing. The qualification defect may be eligible for self-correction under the EPCRS (see Rev. Proc. 2003-44).

[Lori H]

The plan must specify either a "0," "1,", "2" or "3" year service requirment. With a "1" year requirement an employee that worked for the organization in the prior year (with or without pay and for any length of time (5 minutes)) is eligible to participate for the entire current year if they would attain the age 21 by the end of the current year.

mr. lesser, even if they earned under $450?

[jevd]

The $ 450 refers to compensation for the year of participation.

Any compensation earned in the qualifying years (up to 3 of previous 5) counts as a year of service.

[Gary Lesser]

If they earned less than $450 in the current year (only) they would not be eligible, provided the plan contains the exclusion for minimum compensatiion.

[mbozek]

The proper platform with the terms you have described is a discretonary PS plan which provides only a lump sum distributions or a 403(b) plan with a discretionary contribution provided the client is a 501©(3) entity. Both plans would permit the employee to self direct investments. The 403(b)(7) plan is a simplier program because no determination letter is required and 5500 filing is easier to complete. MP plan is not recommended because of the spousal consent requirement and the need to have an annuity as the normal form of benefit as well as a sked B, etc.

[Gary Lesser]

JEVD,

Actualy any service (whether or not paid) would count as "service" for puposes of the 0, 1, 2, or 3 year SEP requirement. There is no requirement that compensation be paid. All that is required is an employer-employee relationship exists. Whether an otherwise eligible participate does participate would then depend upon whether the employee met the $450 de-minimis exception in the curent year.

[Lori H]

One of our board members with an interest in this area did want us to

have more certainty regarding when exactly SEP benefits should begin for

a new employee: (a) on the specific date an employee reaches the plan's

0, 1, 2, or 3 year service requirement or (b) on January 1 of the

calendar year that includes the specific date the employee reaches the

plan's 0, 1, 2, or 3 year service requirement.

Assuming:

- 1 year plan service requirement

- the company's SEP benefits are 10.0 % of an eligible employee's gross

pay

- an employee who begins working for the company on May 1, 2004

Would the company begin applying the 10.0% SEP benefit on the employee's

January 1, 2005 payroll or begin applying the 10.0% on the employee's

May 1, 2005 payroll?

Is there a direct answer to the above or anything you can tell us that

would help us lean one way or the other?

[Appleby]

SEP benefits would begin the first day of the year for which the employee meets the requirements.

For example: Assume the employer choose a 3 of 5 service requirement… and

The employee worked 2003,2002 and 2001.

The employee would be eligible for a 2004 contribution, because s/he worked 3 of the 5 years that precede 2004. Contributions would be based on compensation paid during 2004. For instance, compensation paid from January 1,2004 to December 31,2004.

Specific dates do not really apply. For instance –assuming calendar year-, someone who started May 1,2004 will have accrued one year of service by December 31,2004. This is so regardless of the number of hours s/he worked in 2004.

In your example with the 1-year service requirement, the employee is not eligible to receive a contribution for 2004, because s/he did not work for 1 of the five years that precede 2004.

The employee will be eligible for a 2005 contribution, which will be based on compensation paid during the 2005 year