Discussion:S corp Shareholder SEP-IRA

I talked to the IRS agent, he says, the question is focused on the S Corp earnings/distributions qualifying for the SEP-IRA!!! My client in addition to the S Corp distributions, has also received a W-2 from the S-Corp which shows a significant salary justifying the SEP-IRA contributions in my opinion. Has anyone come across this lately?

Alternatively, the K-1s can be amended to change distributions to salary, FICA taxes can be paid, and the SEP contributions can be retained.

S-Corp takes the deduction in Line 17 ? and therefore passes through K1 to shareholder and no deduction on 1040?

Going forward your client could have an Individual 401k instead of a SEP IRA and may be able to make a greater contribution. Below is an article that I wrote and posted to TaxAlmanac previously that explains this further. SEP IRA versus Solo 401k / Individual 401k

SEP IRA versus Solo 401k / Individual 401k

Introduction:

Are you still recommending a SEP IRA as a retirement plan to your self employed clients? I'm guilty of that too until I learned about how some of my clients could benefit from the Individual 401k (sometimes called a Solo 401k) as an alternative to a SEP IRA. A SEP IRA is a good choice for some self employed clients, but in other situations an Individual 401k provides a larger contribution / tax deduction versus a SEP IRA

About the Topic:

Individual 401k / Solo 401k plans are available to sole props, LLC and S and C corps. The advantage is in how the contributions are calculated. Also, a client that has an Individual 401k can have a loan, something they can not have in a SEP IRA. For example, I have had a client that left an employer and had a 401k, rolled over their 401k into an Individual 401k and then borrowed $50,000 to finance the startup of his business. There are no income or credit qualifications of getting the loan and interest is paid back into their own 401k.

Contributions SEP IRA versus Individual 401k / Solo 401k

In the example below the client is age 55 will have $100,000 net income in 2006 as a sole prop.

SEP IRA - max contribution would be $18,587

Individual 401k - max contribution would be $20,000 + $18,587 = $38,587.

Before I knew of the benefits of the Individual 401k I would have recommended a SEP IRA and would have left a $20,000 tax deduction on the table.

Not every client can make a contribution greater than the $18,587 permitted in a SEP IRA in this example, but for those clients that can an Individual 401k is clearly more advantageous. Also, a very interesting point is the benefits can be doubled for a husband and wife both working for the business and each with 100k net income would be able to contribute a total of $77,174 to an Individual 401k.

Summary:

An Individual 401k may provide your clients with a greater tax deduction and retirement contribution when compared to a SEP IRA. Also, an Individual 401k allows a loan that can provide a financial cushion or can help finance the startup of the business. I have had clients setup retirement account at this firm and have become knowledgeable about these retirement plans by reading the information on http://www.individual401k.com

Apart from the wages, the S corp also has 6K of income distributed to him, but I think I can't use the $6K towards the SEP-IRA contribution, based on DKcpa above,

Is there a better retirement plan structure for an S corp sole shareholder?

Many thanks

I don't know about the 401K. Can it be combined with the sep ira?

My post didn't focus on the forms necessary to correct the problem, but instead wanted to provide a solution going forward. For example, this is what was stated in the original post by Rabaty

"talked to the IRS agent, he says, the question is focused on the S Corp earnings/distributions qualifying for the SEP-IRA!!! My client in addition to the S Corp distributions, has also received a W-2 from the S-Corp which shows a significant salary justifying the SEP-IRA contributions in my opinion."

Translation: I take an artificially low W-2 and a big K-1 so I don't have to pay as much FICA.

Problem: With a SEP, low W-2 multiplied by 25% = a small SEP contribution and Rabaty would probably like to base the contribution on the K-1.

Why do I assume this? This statement "My client in addition to the S Corp distributions, has also received a W-2 from the S-Corp which shows a significant salary justifying the SEP-IRA contributions in my opinion.."

Opinion? It's not an opinion issue. Take W-2 and multiply by 25%. Riley2 pointed that out that the calcs are based on W-2 and has nothing to do with K-1

Solution: If Rabaty gives his client the heads up on an Individual 401k vs. the SEP even with a low W-2 you can make a much larger contribution.

In this example, Client age 55 one person S corp with low W-2 30k and big 70k K-1.

2006 SEP contribution $7,500

2006 Individual 401k contribution: 20k salary deferral and $7500 PS = $27,500

A Sole Prop can have an individual 401k even though there is no salary. The salary deferral is just based on net income and the profit sharing is based on the full net but the PS contribution works out to be 20% (because you have to make a 1/2 FICA deduction)

Stockma. This now leads into your question...

On this issue, my client is a sole shareholder of his S corp. With 40K of W-2 wages, can he make a 10K SEP-IRA contribution (25% of wages)? Or is the calculation more complicated than that?

You got it 10k. The SEP calcs are W-2 X 25%.

Apart from the wages, the S corp also has 6K of income distributed to him, but I think I can't use the $6K towards the SEP-IRA contribution, based on DKcpa above,

Thank you. You got it. I'm glad my typing isn't all in vain :)

Is there a better retirement plan structure for an S corp sole shareholder?

Yes, if your client can make a greater contribution than 10k allowed in a SEP than you might recommend an individual 401k.

Assume your client is age 45 with 40k W-2 and 6k K-1. SEP contribution (40k x .25) = 10k

Individual 401k contribution (15k salary deferral) + PS (40k x .25 = 10k or in this case the full 6k since that is all that is in K-1) = $21,000 total.

Stockma in your example you could take 30k W-2 with 16k K-1 and then could make a contribution of 15k + a PS of $7500 = $22,500. You would have a lower W-2/taxable income and larger total contribution since you are leaving more $$ for the PS contribution.

Want to provide value to your self employed clients, justify the fees you charge for being a knowledgeable tax professional, become the hero by providing your client with a nugget by showing them a way to get an additional 15k or 20k tax deduction compared to their SEP? Then take 15 mins to learn about the Individual 401k...I did :) http://www.individual401k.com

A 100% shareholder in S corporation appears to be able to be able to shield his SEP contribution (based on 25% of W-2 wages) from self employment taxes as well as from income taxes because it comes through a reduced K-1 income, and is not reported on his W-2 and is not subject to self employment tax because it is a 1120S K-1.

In contrast, a Schedule C SOLE PROPRIETOR would have to pay self employment taxes on the amount of the SEP contribution amount because it would not be deductible on the schedule C and therefore would be subject to self employment tax, but not subject to income tax because it could be deducted on page 1 of his 1040.

Tell us who you are, fill in your profile. We like to get to know our friends.

1. I have an S Corp and W2 myself.

2. I contribute to my SEP and report it on the 1120s.

3. My wife is a sole proprietor, she is paid by the S corp (no W2, no 1099).

4. She reports her gross receipts on the 1040 schedule C.

5. Her net is $12,343.

6. The AGI on the 1040 is $113k.

7. TaxCut says she can make a SEP contribution of $2294.

I was under the impression that pretty much anyone can contribute pretax dollars of $4000 into a traditional IRA and that a SEP can be contributed to like a traditional IRA. (Vanguard told me this last year.)

What is the best way for her to contribute (pretax) into any retirement plan? I have already filed the 941/940 this year. I am starting to think I should have given her a w2.

When MFJ, and if you are covered by an employer retirement plan (your SEP), your AGI must be less than $85,000 to make a partially deductible IRA contribution or under $75,000 to make the maximum deductible IRA contribution (which is $4,500 each or $5,000 if age 50 or older). The deduction is phased out from $75k to $85k for joint returns.

If this is true, then what Vanguard said is also true. Direct the traditional IRA contribution to the SEP, becuase it is the same as opening a Traditional IRA making the contribution, then tranfering the Traditional to the SEP.

So my wife can really contribute $6294 ($2294=employer and $4000=employee) to the SEP.

 As I read your first post, it seems she derives her income from your corporation, or am I reading this too broadly?  In that case, it might make sense to put her on payroll instead and contribute 25% of her pay to the company SEP in 2007, assuming you are not going to take advantage of the one person 401K for 2007.

I would appreciate someone reviewing this and letting me know if how I handled this is correct. If not what should I have done?

I am not sure I handled this correctly for 2004 and 2005. Let me explain 2005 because i was planning on doing 2006 same way.

I have 100% owner, age 60, sole owner and only employee of S corp that makes $200,000+/ year. Each year we do max W-2 for SS and also he wants to max contributions to retirement plans. Company has 401K + he has a SEP that is from when he was a sole proprietor. 2005 max contributions with catch up was $42000 + $4000 = $46000 W-2 was 90000 x .25 for profit sharing = -22500 Elective deferral 14000 + 4000 -18000 I put balance of $5500 on form 1040 line 28 SEP - 5500

Thank you for your help.

Rick

Anyone want to help? Please send an email with your fee.

The S corp is owned 100% by me, I w2 myself and my wife is paid as a sole proprietor through the corp. Our state is FL. I have clean books.

Email is brian@databaseknowledge.com

Sorry about the double post here but did not want to lose this question.

I would appreciate someone reviewing this and letting me know if how I handled this is correct. If not what should I have done?

I am not sure I handled this correctly for 2004 and 2005. Let me explain 2005 because i was planning on doing 2006 same way.

I have 100% owner, age 60, sole owner and only employee of S corp that makes $200,000+/ year. Each year we do max W-2 for SS and also he wants to max contributions to retirement plans. Company has 401K + he has a SEP that is from when he was a sole proprietor. 2005 max contributions with catch up was $42000 + $4000 = $46000 W-2 was 90000 x .25 for profit sharing = -22500 Elective deferral 14000 + 4000 -18000 I put balance of $5500 on form 1040 line 28 SEP - 5500

Thank you for your help.

Rick

Thank you again. Rick

Just to confirm is line 17 used for all SEP-IRA cotributions to that given year including >2% shareholders right?

Also, my wife works for another company whcih offers 401k plan and she is contributing the max allowed amount to 401k at that company. Now, does she restricted to any SEP IRA contribution limit other than Wages * 25% or 44k?

1. An S-corp >2% owner (let's say 100%) makes 40k in W2. That means 25% = 10k can go into the SEP

2. All this is independent of dividend distributions, only W2 salary counts

3. Due to the >2% ownership the SEP contribution has to be reported/added to wages

4. SEP contributions go onto line 17 on from 1120S

Open questions:

1. How is it reported on the W2? Does it go into box 12 with some code?

2. Is it just ignored and intransparently rolled into the W2 salary?

3. Where is it listed on the 1040?

4. Does it mean one has to pay FICA on SEP contributions and lose out that way as a business owner?

Thanks!

2. y 3. N! Nothing to do with wages. 4. y

1. NA 2. ditto 3. ditto 4. ditto

I have a 100% shareholder $27,000 W-2 income Corp has $10,000 disbursement (directly to the shareholder) for SEP

OK, obviously too much! And is it necessary that the check be written to the financial institution where the SEP is held? How do I fix this mess? Thanks so much or any help!

John Huddleston Seattle Bellevue Tax Accountant

And what is this 'consultant 1099?' That does not sound kosher.

I have a 100% S Corp shareholder (only corporation employee) that setup a SEP-IRA starting 2008. Is it an employee deferral like a 401(k) and SIMPLE where employee defers portion of salary that reduces gross salary - where FICA and Medicare withholding is based on gross before deferral - FWT and SWT based on after deferral; corporation shows -0- pension expense, or

Is the employee taxed on gross for all the withholding taxes, and the corporation take a 100% expense deduction for the contributon?

I know that for 2008 - it's salary x 25%; limit contribution is $ 46,000. This particular client will never hit the limit.

There is a pretty good discussion here: http://www.individual401k.com/sep_ira/

I thought Solo 401k is for S-Corp with one owner only. We report the consultant compensation on 1099 Misc. He sets his hours and place to work and he is responsible for paying his taxes.

That's just what I needed to know for setting up a SEP for a SubS (100% shareholder-only employee) client. Wanted to set it up and to it right.

I'll bet you Rabaty never realized in asking the question at the top of this thread that he would be immortalized and people would be looking to his question ever after.

Please read the whole question. Thanks in advance to anyone who might help!!

I have two separate SEP questions - I apologize in advance if it's not proper etiquette to put two scenarios in one post :)

1. I have a new client who had a Schedule C until the middle of 2006 - at which point he started an S-Corp for that business. He had a SEP in his name for the Schedule C. In 2007 he made contributions to the SEP out of the S-Corp. In 2007 he also had employees for the first time. Questions - is there a legal requirement to change the SEP to the S-corp? I plan on putting the deduction on the S - I'm more concerned about whether or not he needs to file a new 5305-SEP. If he does so, and sets it up so employees have to have worked 3 out of 5 years - does his years of service as a Schedule C filer somehow come into play? In other words can he qualify without his new employees qualifying?

2. I have a self employed individual who also has an S-Corp. and is the only employee. He has had a SEP for the schedule C for years and no retimrement plan for the S-Corp. This year the Schedule C will not have much income - is there any reason he can't have a SEP for the S-Corp and fund that one this year (understanding that the funding will need to come from the S-Corp).

Many thanks for your help!

I have two separate SEP questions - I apologize in advance if it's not proper etiquette to put two scenarios in one post :)

1. I have a new client who had a Schedule C until the middle of 2006 - at which point he started an S-Corp for that business. He had a SEP in his name for the Schedule C. In 2007 he made contributions to the SEP out of the S-Corp. In 2007 he also had employees for the first time. Questions - is there a legal requirement to change the SEP to the S-corp? I plan on putting the deduction on the S - I'm more concerned about whether or not he needs to file a new 5305-SEP. If he does so, and sets it up so employees have to have worked 3 out of 5 years - does his years of service as a Schedule C filer somehow come into play? In other words can he qualify without his new employees qualifying?

2. I have a self employed individual who also has an S-Corp. and is the only employee. He has had a SEP for the schedule C for years and no retimrement plan for the S-Corp. This year the Schedule C will not have much income - is there any reason he can't have a SEP for the S-Corp and fund that one this year (understanding that the funding will need to come from the S-Corp).

Many thanks for your help!

Thanks for the response!

I have a client with an S-corp who failed to file tax returns for several years in a row (he paid estimated taxes though). He did, however, create an IRA account and a SEP account with an online brokerage. The problem is, he didn't pay himself any salary.

We calculated that if he paid enough salary to justify his SEP contribution, his additional self-employment and social security taxes would be greater than the deduction he'd get for the SEP.

So we advised him not to take the SEP (or IRA) as deductions. First of all, do you agree with this, and secondly, what should he do with those accounts which still exist in his online brokerage?

I had suggested that he immediately close the accounts, and explain to the IRS if they ask, that he had never claimed them. Is this what you'd recommend?

Thanks!

1. He has an S Corp, but has not filed which returns, the S Corp or the individual or both?

2. He paid estimated taxes for the individual?

3. He set up and funded a SEP? In which name? If he was an employee of the corporation, the SEP had to be in the corporate name and deducted there.

4. Self employment tax? You mean he paid himself on a 1099 or the like and did not file payroll taxes?

5. And if I get the drift, you are advising him not to show salary or Schedule C income on his personal return, but to pick up the S Corp income on Sch E and not pay Social Security.

Now if I have this straight, and he follows your course, he owes Excise taxes for making contributions for each year the money was put in the IRA and SEP when he had no earned income. (You cannot claim the IRAs were non-deductible unless he has other earned income to qualify him for the contribution.)

I would not recomment this course, assuming I have read you correctly, but rather pay the SE tax and take the SEP deduction, and IRA deduction if his income is low enough....if not, treat the IRAs as a non-deductible contribution.

Your use of the editorial "We," and your lack of a profile, suggests that the 'we' is you. If not, my apologies but your client has made his bed, so he should sleep in it.

Thanks

I didn't indicate my SEP IRA checks from my S-Corp. Income flowed through to my personal taxes as income in K-1. Can I deduct my SEP IRA contributions on my personal taxes without redoing my S-Corp and or W2?

Thank you in advance.

I'm the sole shareholder of an S-Corp. During the year (2008) I paid myself a salary and the Corporation made contributions to my SEP. THe contribution were less than the limits allowed. I've filed my W2 already, but have not filed my corporate or individual tax returns yet.

My question is, can the corporation made an additional contribution to my SEP for tax year 2008?

Thanks in advance.