# Question of the Day – April 10

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 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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