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Plans Funded by Your Employer

SEP-IRAs: The SEP-IRA (simplified employee pension individual retirement account) is a type of retirement account that allows a small-business employer to contribute to employees’ retirement funds. The employer usually contributes the same percentage for all eligible employees. In 2007, employers could contribute a maximum of either 25 percent of an employee’s salary or $45,000, whichever was less. These employer-made contributions are tax deductible for the employer, and the earnings grow tax-deferred. There are no minimum contribution requirements on the amount the employer can contribute to these plans, and these plans are generally best for companies with few employees. If you have one of these accounts, you can still have other qualified and individual retirement accounts. Contributions are tax deductible for the employer, earnings grow tax deferred for the employee, and the individual employees own the plans.

The limits on the amount of money that may be contributed to this defined-contribution account are set in Code 415 of the Internal Revenue Code. The amount of individual and employer benefits in 2006 is found in Table 3.

Table 3
  Section 415 Funding Limits
2005  $42,000
2006  $44,000
2007  $45,000
2008  Indexed
2009  Indexed


SEP-IRAs are the retirement plans that are easiest to set up and maintain, and they do not require annual filings. They allow larger contributions than traditional IRAs ($45,000 versus $4,000 in 2007). This is the best type of retirement plan for businesses with only a few employees.
The major disadvantages of a SEP-IRA include that you cannot borrow against the retirement plan, and early withdrawals (withdrawals made before age fifty nine and a half) incur a 10 percent penalty in addition to ordinary income taxes.

Keogh Plans: Keogh plans (also called qualified retirement plans or HR 10 plans) are a type of retirement plan set up by a sole proprietor or partnership. These plans allow small businesses to make tax-deductible contributions to employees’ retirement plans. Plans can either be defined-benefit plans or defined-contribution plans, but most Keogh plans are defined-contribution profit-sharing plans or money-purchase plans.

Employers usually contribute the same percentage of income for each eligible employee. As an employee, you can also contribute up to 20 percent of your income (to a maximum of $45,000 in 2007) into your Keogh plan. As with many other retirement plans, Keogh investments grow tax deferred.

There are three unique options that make Keogh plans flexible: two are defined-contribution plans and one is a defined-benefit plan. These options make Keogh plans somewhat similar to the defined-benefit plans and defined-contribution plans offered by larger companies. (For more complete details on these plans, see Internal Revenue Service, Publication 560: Retirement Plans for Small Businesses: SEP, SIMPLE, and Qualified Plans at http://www.irs.gov/pub/irs-pdf/p560.pdf)

There are two types of Keogh defined-contribution plans: profit-sharing plans and money-purchase plans. Profit-sharing plans allow employers to share profits with employees. These plans provide a way for company profits to contribute to employee retirement plans. Contribution limits for profit-sharing plans are more flexible than limits on other plans. Money-purchase plans define a fixed contribution limit that is not based on company profitability. A Keogh defined-benefit plan is any plan that is not a defined-contribution plan.

In a defined-contribution plan, the maximum amount an employer can contribute each year is either 100 percent of an employee’s average salary for the past three years or $45,000, whichever is less. In a defined-benefit plan, the maximum amount an employer can contribute is either the employee’s average salary for the past three years or $170,000, whichever is less. Because of these higher contribution maximums, Keogh plans are especially helpful for those trying to catch up on retirement savings.

Possible disadvantages of Keogh plans include that they require more administrative work than SEP-IRAs, they cannot be borrowed against, and they must be established by December 31 of each year.


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