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FEATURED ARTICLE
SEPs a way for small business owners to save
Money can be invested and grow, like a 401(k)
By Susan Morse
Published: January 2007
The single biggest tax advantage for small-business owners is a retirement fund, according to two local financial planners.
A Simplified Employee Pension, called an SEP, is a good way to defer paying taxes to the Internal Revenue Service, said Dave Landers, president of Landers & Associates Inc., with offices in Rye and Holden, Mass.
"It's the ideal deduction," said Landers. "It's one thing you can do after the first of the year to adjust taxes: set up a pension plan for the owner."
The SEP, said Elaine Morgillo, can wait to be funded until the tax return is filed, with the funds deducted from taxable income.
"If you don't have money to put away, but think you will later, file for an extension," said Morgillo, a certified financial planner and president of Morgillo Financial Management Inc., in York, Maine and North Andover, Mass.
A SEP is particularly helpful to the seasonal beach business owner, said Landers. This is because the owner can contribute to the pension as late as mid-October, when cash flow is better.
It is a strategy that makes sense, said Morgillo. It allows a business person to set aside up to 25 percent of profits into a retirement plan, up to $45,000 for 2007.
The money in the SEP can be invested and grow, the same as other retirement funds such as 401(k)s.
The SEP has two disadvantages. One is that the IRS will eventually get its money. The IRS also imposes a 10 percent penalty if the money is taken out before a person turns 59 ½ years old.
A second disadvantage is the small-business owner is required to make the same investment for his or her employees.
"If you put 10 percent away for yourself, you also have to contribute 10 percent of the employee's income for a SEP for them as well," said Morgillo.
A SEP is most appropriate for self-employed people without employees, such as real estate brokers, said Morgillo.
Other tax advantages, according to Landers and Morgillo, not always followed by business owners, include:
Keeping good records. Morgillo recommends Quicken.
Keep the tax adviser informed.
Do not overlook the two-year period on the net operating loss.
Consider forming a limited liability corporation, or LLC, to avoid the self-employment tax.
"It really gets ugly, if they haven't set up as a corporation, to pay not only the employee's portion of social security but pay the employer's half," said Landers. "Call it self-employment tax of 15.3 percent."
Get good tax advice. If you're working with an accountant or tax preparer, said Morgillo, make sure you're working with a strategist, not just someone who is filing tax returns.
The average family will pay more in taxes than on housing, food and other living expenses combined, said Landers. Most families, he said, are paying 40 percent tax. Add the gas tax, and outside of this state, a sales tax, and an estimated half of people's income is going to taxes, he said.
"Taxes are probably the largest expense a couple has today," he said.
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