Salary Reduction SEPs

There are some simplified employee pension (SEP) plans out there that include a salary reduction or elective deferral feature. Known as salary reduction SEPs or SARSEPs, these plans allow an employee to elect to have a part of each paycheck go on a tax-deferred basis to a SEP-IRA. An employer can also make contributions on behalf of an employee just like with regular SEPs. The total of all SARSEP contributions (employer and employee) cannot exceed the same limits set for SEP contributions. The use of SARSEP plans by employers is very limited. Because of the enactment of SIMPLE plans, no new SARSEP plans have been allowed since 1996. If an employer established a SARSEP plan before 1997, employees can still participate in such a plan, though.

Tip Although elective deferrals are generally excluded from your income in the year of deferral, they are still included in wages for Social Security, Medicare, and unemployment (FUTA) tax purposes.

Tip If you currently participate in a SARSEP and are worried because SARSEP plans were repealed, stop worrying. As with a regular SEP, you are always 100 percent vested in the contributions to your account. That means that you can keep the money where it's at, transfer it like any other IRA transfer, or take it out early and pay taxes and penalties. The choice is and always will be yours.