The ERISA consultants at the Columbia Management Retirement Learning Center Resource Desk regularly receive calls from financial advisors on a broad array of technical topics related to IRAs and qualified retirement plans. A recent call from an advisor in South Carolina illustrates a concern small business owners may face when establishing Simplified Employee Pension (SEP) plans. The advisor asked:
“My client owns several different small businesses. May each business have its own SEP plan with a unique contribution amount?”
The short answer is yes, but... Each business under common ownership may sponsor its own SEP plan, but your client must be aware of controlled group rules that may require business owners to treat all businesses as one for plan purposes.
If the group of businesses constitutes a controlled group pursuant to Section 414 of the Internal Revenue Code (IRC), then all are treated as a single employer that employs all employees of the group.
Let’s review the controlled group and SEP plan rules to see why we have this result. A controlled group consists of two or more businesses under “common ownership” as defined in IRC Sec. 1563(a). If the businesses constitute a controlled group of businesses, then all eligible employees of all the businesses must participate in each SEP plan the controlled group maintains.
The SEP plan document used to establish the plan specifies the conditions for sponsoring the SEP plan. For example, the IRS Form 5303-SEP plan document requires all eligible employees within the controlled group of businesses sponsoring the plan be allowed to participate in the SEP plan, among other conditions.
This example illustrates the implications of this rule: Shelly owns 100% of three businesses: ABC, DEF and GHI. She established a SEP plan for each entity. In 2012, she wants to contribute 2% for the ABC employees, 5% for the DEF employees and 12% for the GHI employees. However, the controlled group rules require all employees to be allowed to participate in each SEP plan. This results in each employee receiving a contribution of 19% (2% +5%+12%). In this case, a single SEP plan for all eligible employees in the controlled group of businesses would be the more likely course of action.
Conclusion
SEP plans are a good choice for many business owners. However, there are hidden levels of complexity lurking beneath their “simple” facade, especially for owners of multiple businesses. Business owners with multiple business holdings should be aware of the controlled group rules before proceeding. Financial advisors who are familiar with the nuances of these rules are better positioned to support their clients.
The Columbia Management Retirement Learning Center Resource Desk is staffed by the Retirement Learning Center, LLC, a third-party industry consultant that is not affiliated with Columbia Management. For informational purposes only. Please consult a tax advisor or attorney for specific tax or legal needs. © 2012 Columbia Management Investment Advisers, LLC. Used with permission.
