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SEP, Partners and Contribution Limits


Guest derek
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Can partners participate in a SEP? I seem to remember that they can (as employee-partners), but are they subject to special contribution limits due to their status as partners? For instance, are partner-employee contributions limited to the 402(g) limit ($10,000 in 1998) and NOT the limit otherwise applicable to SEPs (15% of pay up to the maximum contribution of $24,000 = 15% of $160,000). I need help and can't find the answer anywhere.

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Partners may participate in a SEP/SARSEP.

After several reductions (for their own SEP and SARSEP contributions, share of non-owner contributions, and 1/2 of the self-employment tax deduction) they are limited to 15of ultra net earned income). The S/R portion is also limited to $10,000 (for 1998 & 1999). Unless you have a specified percentage in mind for the non-owners (or if the plan is integrated with social security) software is generally needed to quickly crunch owner contributions and illustrate the plan.

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Thanks for the feedback. I guess what I really need to ask is...

Prior to TRA '97, there was a rule that applied to partners participating in a 401(k) plan that stated that matching contributions were considered a CODA and added to 401(k) contributions subject to the 402(g) limit of $10,000 (or whatever the indexed amount was at the time). Consequently, partners didn't get the same benefits available to other employees. My question really is whether this same provision applied to partners who participate in a SEP (not a SARSEP) and are the employer contributions to the SEP (in my case a 15% contribution for all employees - subject to limitations) limited to the 402(g) amount for partners? Or, are the partners merely subject to the "circular" SEP contribution limits that apply to earnings from self-employment (or flow through income) from a partnership.

[This message has been edited by derek (edited 11-03-98).]

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That rule (partner matching in 401(k) plans eating up $9,500 limit) doesn't exist in SEP/SARSEP and SIMPLE land, and was repealed in 401(k) land (after 1997).

SEPs and SARSEPs do not allow for matching contribution. Salary reduction contributions eat up the 15 percent limit, reduce the maximum dollar limit ($24K if ultra net earned income is $160K or more), and also reduce pre-plan earned income.

Only the salary reduction contribution eats up the 402(g) limit.

For example, self-employed earns $191,671 (pre-plan) for 1998 and makes an elective contribution of $10,000. An employee earns $10,000 and makes an elective contribution of $543.48. The employer contributes 8.749997 percent of ultra net EI and same percentage on employee's compensation of $9,456.52 ($10,000 less an elective of $543.48, see below). Owner gets $24,000 ($14,000 employer + $10,000 S/R) computed as follows:

$191,671.00 (pre-plan compensation)

less 875.00 (e/ee contribution)

less 6,795.70 (1/2 SE tax deduction)*

less 14,000.00 (e/er contribution)

less 10.000.00 (elective contribution)

equals $160,000.00 (Ultra net EI)

times .08749997 Contribution rate)*

equals $14,000.00 (e/er contribution)

add $10,000.00 (elective)

equals $24,000.00 (15%/$24,000 limit)

* Amounts and percentages calculated using QP-SEP Illustrator Software. [The SE tax was based on $190,796 ($191,671 - 875 employer contribution for employee).] The employees elective contribution was $543.48 and was the maximum allowed without producing an excess when employer funds were added to plan. Both employees got 15 percent of their compensation used for deduction purposes; that is, includible (taxable) compensation under IRC 404(h).

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  • 3 years later...
Guest lforesz

Hi,

In item 2 of the example for the owners it would seem that partners could only deduct 15% of the adjusted compensation which I believe would be limited to $170k.

However, we have a lot of partners in plans that are contributing $30,000-$35,000 a year. How can this be in light of item 2 since 15% of 170k is only $25,500. Are owners able to eat up some of the excess deductibility in item 1 and deduct that on their personal side. Basically, I'm confused. Thanks for helping out.

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Had the above example been for 2001, then the applicable limit would be based on EI up to $170,000.

If the sum of the employer and employee elective contributions exceeded more than 15 percent of aggregated "taxable" compensation (limited to $170,000 for 2001 per indvidual), the employer contributed too much.

If the plan is integrated for example, then some individuals will get a greater percentage of the employer contribution. If an individual with compensation of $170,000 deferred $10,500, they could be allocated up to $24,500 of the employer contribution. There would have to be a lot of employees (and not making too high of an elective contribution) for this to happen.

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Guest lforesz

So, you can break it up however you want, but the total of contributions (including Partner 401(k)) cannot exceed 15% of aggregate eligible payroll for partners and staff. My trouble was that I wasn't sure if the partners could get more than 15% of their EI, but it looks like they can as long as the non-owners has some extra "deduction room" to give them. So, their personal deduction may be more than 15% of their EI as long as the total deductions claimed on the 1065 and 1040's do not exceed 15% of aggregate compensation.

Also, partner 401(k) count towards this limit.

Thanks, for your help!

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Lori,

You got it. And the 415 limit prevents the amount allocated (including elective contributions) from exceeding 25 percent of pre-plan compensation (up to $170k) or $35,00 for 2001.

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  • 5 months later...

A lot of interesting and helpful stuff going on in GSL's example above. To pick some -- in which I happen to be interested -- I note that the deductible portion of the SECA ($6,795.70) is computed on NEFSE of $190,796, which is includes the $24,000 of contributions by/for the self-employed participant. I.e., his NEFSE is not reduced by these contributions, so he is paying SECA tax on both of them. This point is sometimes confusing to folks and many get this wrong, but GSL got it exactly correct in my view. In contrast to the treatement of the elective deferral for calculating NEFSE, note that the deductible SECA and the $24,000 of contributions -- including the elective deferrals -- both come out in computing "earned income" of $160,000. But this example takes place in 1998. I suppose that the $10,000 of elective contributions would not be deducted in determining earned income for purposes of the 404 limitaion after EGTRRA which added 404(a)(12) telling us to add back in elective deferrals for self employeds (creating parity with the treatment afforded employees under 415©(3)). So, I guess that means that "earned income" under 401©(2) would not include the elective deferrals -- i.e., they are excluded or deducted in comeputing earned income under 401©(2) -- else why we would have needed 404(a)(12) to add 'em back since 404(a)(8) starts off with 401©(2)'s definition of "earned income", right? And I suppose that the deduction of the elective deferrals for computing the 401©(2) earned income of a self employed is required by 401©(2)(A)(v), which references deductions under 404.

So, why is all of this bothering me? I'm working with a plan for a partnership. It defines plan Compensation to mean, in the case of partners, their "Earned Income" under 401©(2). It goes on to say that Compensation shall also include amounts that are withheld under a salary reduction agreement that are excluded from gross income under sections 125, 132(f), 402(e), 402(h), 403(B) and 457. But note what's missing: amounts that are deductible under 404 -- which I assume would include a partner's 401(k) contributions. That doesn't seem right to me and I don't like this result... but I don't see any way out of this other than to amend the plan.

Is my logic right? Does 401©(2) earned income exclude a partner's 401(k) contributions by virtue of their being deductible to him under 404? And am I right that the plan language I describe does therefore exclude the partners' 401(k) contributions in determining their plan Compensation?

Thanks for reading. Any help would be appreciated.

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A SE pays SET on his or her NESE which is not the same as EI for plan purposes. Thus, contributions are subject to SE tax. But a SE does not pay tax on their SE tax, and Schedule SE provides for an "in lieu" deduction of 7.65% in computing NESE. This was called parity some years ago. If not SE the individual wd have to draw a higher W-2 amount and then the employer wd make the contribution. So they reduced compensation (EI) by the contribution to make everyone equal.

In general (although there are some issues here, see below), ultra net EI is used for calculating owner contributions and the 25% deduction limit. That amount (the 25% limit) plus the elective contributions contributions are ostensibly deductible under IRC 404. But under 402(h), any amount that exceeds 25% of the ultra net EI, plus up to $1,000 (if catch up contribution of $1,000 is made). Yes it's confusing and everyone is suffering--bad advice will be rampant--I only hope I'm right!. Put another way--

(1) The initial deduction limit is 25% of pre-plan EI (after subtracting all owner contributions and the SE tax) OR 20% of pre-plan EI (prior to having deducted contributions, but after deducting SE tax). It is not clear whether the catch up amount is excluded from EI in this calculation. I do not think it is.

(2) That amount plus the elective contributions and catch up contributions are then ostensibly deductible. [but see below]

(3) Even though ostensibly deductible, to the extent the contribution/allocation exceeds 25% of includible compensation (ultra net EI) it's included in income (not really all deductible if 25% limit exceeded if self employed), up to $40,000. If age 50 or older, add the catch up contribution to that amount (up to $1,000), but not more than $41,000.

Other issues, e.g., the 100%/415 limit are also unclear. SEE FIRST "STICKY" post regarding IRS Q's for 2002]

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