Ask the Experts!
The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers. Here’s the question of the day.
Question: I understand that the maximum SEP contribution for an employee is 25% of compensation up to a maximum of $50,000 in 2012. I’ve heard that the maximum percentage of compensation contribution for a self-employed person is less than 25%. Is that true?
The SEP contribution for a self-employed person is equal to an adjusted plan contribution percentage times the individual’s net earnings from self-employment. This formula consists of two elements:
(1) an adjusted plan contribution percentage, and
(2) net earnings from self-employment.
First, the self-employed person must determine the adjusted plan contribution percentage. For instance, if the unadjusted plan contribution percentage used for W-2 employees is 10%, then the self-employed owner would use an adjusted percentage of 9.09%.
How is this percentage arrived at? The long answer is you take the unadjusted percentage as a decimal, add 1, and divide that number into one; i.e. 1 plus .10 equals 1.10 and 1.10 divided into 1 = .90909 or 9.09%.
The shorter way is to use this table:
|Rate Table for Self-Employed|
|Plan contribution rate as %||Self-Employed Rate as Decimal|
Second, net earnings from self-employment are determined. The first step in calculating net earnings is to determine net profit from self-employment. That number may be found on
- Line 31, Schedule C (Form 1040),
- Line 3, Schedule C-EZ (Form 1040),
- Line 36, Schedule F (Form 1040), or
- Box 14 , Code A, Schedule K-1 (Form 1065).
Take net profit from self-employment and subtract the deduction for self-employment tax, taken from Line 27 on Form 1040. The resulting number is net earnings from self-employment.
Multiply net earnings from self-employment by the proper factor from the table to determine the SEP contribution for the self-employed client.
Have a question for the professionals at AUC? Feel welcome to submit it by email. We may post your question and the answer as the question of the day.