Expert: Allen - 4/4/2011

Question
QUESTION: I am associated with a two member LLP with no employees and each has other income from sole proprietorships.  One member has an established SEP from his sole proprietorship and due to a substantial increase in income from the K-1 would like to max out his contributions to a SEP.  If I am correct, no reference to a SEP contribution is reported on the K-1 and therefore each partner would contribute to their respective SEP IRA's based on their total income reported on Fed. Form 1040.  My question is, can this partner contribute to his existing SEP IRA or must he establish a new one for the LLC?  And am I correct in assuming any contribution will not be recorded on the K-1?

Thank you in advance for any help and information in this matter.

ANSWER: You are correct that SEP contributions for members are not reported on the K-1 issued by the LLP. The member reports the contributions on his/her 1040.

I am not clear on your refernce to the LLC. Please clarify. Is the LLC a member of the LLP? Is it a total separate business?

Also check the papers used to establish the SEP? What business is named on the form as the entity that established the SEP? I'll need to know this to give you an answer.

---------- FOLLOW-UP ----------

QUESTION: Sorry about the confusion on the reference to an LLC.  Each have a sole proprietorship and belong to the same LLP.  The existing SEP plan in question is under the sole proprietorship so now I am thinking that he will need to establish a new SEP under the LLP.  If this is correct, can only one partner have a SEP plan or must they both establish a plan?  I understand from Pub. 560 that a partnership is treated as an employer of each partner, but in this case the "employer" will not be contributing to the plan.  

Hopefully this will clarify the situation further and I await your answer.

Thank You.

ANSWER: When a business establishes a SEP, all "employees" of the business must have the same percentage of "pay" contributed to the SEP. For this purpose, members or partners are considered employees even though their contributions are made by them and are reported on their individual 1040s. Also "pay" for a member is his or her K-1 income less 50% of the Self Employment Tax paid on that income and also less the contribution to the SEP.

Therefore if the LLP establishes a SEP, both of you must make contributions and the contribution must be the same percentage of your "pay".

---------- FOLLOW-UP ----------

QUESTION: Sorry to be a bother regarding this matter.  Since this is a two-person partnership with not additional employees, it is possible for one partner to "opt-out" of the SEP plan?  

Thanks again.

Answer
Unfortunately no. The only alternative is for the other partner to make the contribution and then withdraw the money from the IRA. This is not a great alternative. The income tax consequences are a wash. However, there is the 10% penalty on withdrawals before 59 1/2.

For future reference you could structure a combination 401k profit sharing plan where you can make different contributions. However, that entails administrative expenses.