IRA or SEP?

A retirement plan alternative

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The Individual Retirement Arrangement (IRA) long has been touted as the average worker's retirement savings plan. With restrictions on contributions and deductibility, however, the IRA has become ineffective for many people.

For many small business owners, an almost look-alike plan called the Simplified Employee Pension or SEP may be a better method.

The SEP is actually a scaled down Keogh, the granddaddy of all retirement plans. Though still very flexible, Keoghs are cumbersome because of the paperwork. Hence the "simplified" part of SEP. And despite the word "employee" in the name, an SEP is available to a self-employed person or a partner.

An SEP is identical to an IRA in virtually all of the IRA's best features:

• Contributions are deductible from income.
• Income earned in the account is tax deferred.
• An account can be set up after the end of the tax year.
• Deadline for contributing to an account also is after year-end, so it can be used for after the end of the year tax planning.
• No annual reporting to the government.
What makes an SEP valuable is its Keogh aspects. Instead of the IRA's $2,000 maximum contribution, 13% of net self employment income, up to $22,500 a year, can be contributed.

In other words, a business owner with at least $16,500 in net income can put more into an SEP than into an IRA ... and in turn get bigger tax deductions and faster accumulations.

Another fine point that gives an SEP an advantage is the deadline for setting up and contributing to an account is the due date for filing the income tax return, INCLUDING EXTENSIONS. An IRA must be set up and contributed to by Apr. 15, while a contribution for an SEP made in early August can still be deducted for the prior year if an extension was filed!

One more nitty gritty plus is that contributions can be made after age 70-1/2 to an SEP, unlike an IRA.

Also like an IRA, however, is the downside: an SEP is subject to a 10% penalty for early withdrawal. In other words, adequate regular savings should be available to handle emergencies.