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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?
Answer: Yes.
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 |
| 1 | .009901 |
| 2 | .019608 |
| 3 | .029126 |
| 4 | .038462 |
| 5 | .047619 |
| 6 | .056604 |
| 7 | .065421 |
| 8 | .074074 |
| 9 | .082569 |
| 10 | .090909 |
| 11 | .099099 |
| 12 | .107143 |
| 13 | .115044 |
| 14 | .122807 |
| 15 | .130435 |
| 16 | .137931 |
| 17 | .145299 |
| 18 | .152542 |
| 19 | .159664 |
| 20 | .166667 |
| 21 | .173554 |
| 22 | .180328 |
| 23 | .186992 |
| 24 | .193548 |
| 25 | .200000 |
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.
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