3640. What is a SAR-SEP? What requirements must be met if a simplified employee pension is offered on a cash or deferred basis?Nuco Employeercline202014-06-03T20:52:00Z2014-06-03T20:52:00Z48925087Albany Law School4211596814Site Map/Individual Retirement Plans/Simplified Employee Pension (SEP)SAR-SEP;sar-sepsarsep salary reduction SEP2005-01-25T00:00:00ZTaxFactsDefaultArticleSite Map/Individual Retirement Plans/Quick Clicks/Elective Deferral LimitsSite Map/Retirement Plans/Quick Clicks/Elective Deferral Limits114940241-00-tf1.xml242.00;#1794;#1797;#2281;#0x010100C568DB52D9D0A14D9B2FDCC96666E9F2007948130EC3DB064584E219954237AF3900242457EFB8B24247815D688C526CD44D009C4E67E972694125ABDA91AC61F5E51FTax Facts 1What is a SAR-SEP? What requirements must be met if a simplified employee pension is offered on a cash or deferred basis?132500.000000000TaxFactsDefaultArticle2010-01-19T08:12:56ZSBMEDIA\moss-admin4111dbb3-6119-41fc-9d9c-28768801cec4|1fb82894-7172-48f5-970a-5c12491bb821|99d36ba3-2174-418b-96e2-1f0d5a81340a3640. What is a SAR-SEP? What requirements must be met if a simplified employee pension is offered on cash or deferred basis?A SAR-SEP is a simplified employee pension that is offered on a salary reduction (i.e., a cash or deferred) basis. In other words, the plan permits individual employees to elect to have contributions made to the SEP or to receive the contribution in cash. A SEP must otherwise meet the requirements in Q 3637, as well as those explained below, and the plan had to be established before 1997. No new SAR-SEPs are permitted after 1996, but those in effect prior to 1997 may continue to operate, receive contributions, and add new employees.See IRC Sec. 408(k)(6)(H). A SAR-SEP may be maintained by an employer who had twenty-five or fewer employees who were eligible to participate in the plan at any time during the prior taxable year. The amount that an employee chooses to defer and contribute to the SEP is referred to as an elective deferral. Elective deferrals (Q 3687) are subject to the same $17,500 cap (in 2013 and 2014, up from $17,000 in 2012) as elective deferrals to IRC Section 401(k) plans.IRC Sec. 402(g)(1); IR-2012-77, IR-2013-86. Elective deferrals also are subject to FICA and FUTA withholding.IRC Secs. 3121(a)(5)(C), 3306(b)(5)(C). Certain lower income taxpayers may be eligible to claim the saver’s credit for elective deferrals to a SAR-SEP (Q 3599).In addition to the elective deferrals described above, a SAR-SEP may permit additional elective deferrals by individuals age fifty or over, referred to as “catch-up contributions.”See IRC Secs. 414(v)(1), 414(v)(6)(A)(iv). The dollar limit on catch-up contributions to a SAR-SEP is $5,500 in 2013 and 2014 (see Appendix E for earlier years).IRC Sec. 414(v)(2)(B)(i); IR-2013-86. For details on the requirements for catch-up contributions, see Q 3688.Contributions made by an employer on behalf of an employee to a SAR-SEP are excludable from the employee’s income to the extent that they do not exceed the lesser of 25 percent of “compensation” from the employer, or $52,000 in 2014 (up from $51,000 in 2013, see Appendix E for earlier years).IRC Secs. 402(h)(2)(A), 415(c)(1)(A); IR-2013-86. As a result of an apparent oversight by Congress, compensation, for this purpose only, is includable compensation (i.e., not including elective deferrals).See IRC Sec. 402(h)(2)(A).The election to defer salary into a SAR-SEP account is available only if (1) at least 50 percent of the employees of the employer eligible to participate elect to have amounts contributed to the SEP; and (2) the deferral percentage for each highly compensated eligible employee does not exceed the average deferral percentage for all nonhighly compensated eligible employees multiplied by 125 percent.IRC Sec. 408(k)(6). Catch-up contributions are not taken into account for this purpose.IRC Sec. 414(v)(3)(A). Compensation or earned income in excess of $260,000 (in 2014, up from $255,000 in 2013) is not to be taken into account in determining an employee’s deferral percentage.IRC Sec. 408(k)(6)(D); IR-2013-86. This amount is indexed for inflation. (See Appendix E for the amounts in earlier years.)A SAR-SEP will not be treated as failing to meet the deferral percentage requirement if, before the end of the following plan year, any excess contribution (i.e., in excess of 125 percent), plus any income attributable to such excess, is distributed or treated as distributed and then contributed by the employee to the plan.IRC Secs. 408(k)(6)(C), 401(k)(8). Such a recharacterization of contributions is not permitted in the absence of regulations.General Explanation of TRA ’86, p. 639. Unless the excess is distributed within 2½ months after the end of the plan year, the employer will be subject to a 10 percent excise tax.IRC Sec. 4979. Any excess amounts so distributed generally are treated as received by the recipient in the taxable year for which the original contribution was made; if total excess contributions distributed to a recipient under the plan for a plan year are less than $100, the distributions will be treated as received in the taxable year of distribution.IRC Sec. 4979(f)(2).Since an employer may not force an employee to take a distribution of excess deferrals because the contributions are held in an individual retirement plan controlled by the employee, the Secretary of Treasury has the authority to prescribe necessary rules to ensure that excess contributions are distributed, including reporting requirements and the requirement that contributions may not be withdrawn until a determination is made that the deferral percentage test has been satisfied.IRC Sec. 408(k)(6)(F). Any distribution or transfer before such a determination has been made will be subject to ordinary income tax as well as to the early distribution penalty, regardless of whether the penalty tax would otherwise apply.IRC Sec. 408(d)(7).A plan will not be treated as violating any applicable limit of IRC Section 408(k) merely on account of the making of (or right to make) catch-up contributions by participants age fifty or over under the provisions of IRC Section 414(v), so long as a universal availability requirement is met.IRC Sec. 414(v)(3)(B). In addition, catch-up contributions are not taken into account for purposes of the employer deduction limitation explained in Q 3637.IRC Sec. 414(v)(3)(A). See Q 3688 for details on the requirements for catch-up contributions.State or local governments and other tax-exempt organizations may not offer SAR-SEPs.IRC Sec. 408(k)(6)(E).