Reduce taxes now, pay for retirement later

For businesses that have a single employee (who is also the owner), the SEP or Simplified Employee Pension is often a great choice. It often has no administration costs, can be flexible from year to year, and is easy to set up and maintain. You can also put a lot more in to a SEP than most other retirement options for a small business; 25% of adjusted gross income (AGI) up to $45,000 for tax year 2007 and $46,000 for 2008. About the only down side to a SEP is if you have employees they may be eligible for a contribution too.

One of my clients is in a quandary. He met with his CPA and is looking at a sizeable tax liability by April 15^th but he has not contributed to his SEP yet for 2007. When the accountant calculated his maximum SEP contribution, he quickly added the contribution and the corresponding tax liability and shared that he doubted he could come up with that much in just a few months. The CPA offered this strategy:

1. Decide on the amount you plan to contribute to the SEP and the CPA will calculate the appropriate taxes due.
2. On April 15^th, file for an extension
   • Pay the taxes due with the extension. This will avoid any penalty.
   • The first extension is automatically granted and is for six months. This moves the tax filing deadline to October 15^th (but if there is an outstanding liability interest and penalties accrue from April 15^th).
3. Make the SEP contribution on or before the new tax filing date of October 15^th.

How interesting. A new spin on buy now, pay later.

I asked around to see if this strategy is sound. Apparently it is somewhat controversial and is open to interpretation. Code does state that SEP contributions must be made by the tax filing date. But is that the original date or the extended one? A conservative interpretation would read that as April 15^th while a more aggressive interpretation would push it to October 15^th.

I think the only way I would employ this strategy is if my CPA agreed with the more aggressive interpretation and signed the return with me. Also, keep in mind that an extension of your 2007 return will delay your economic stimulus payment.

From around the blogosphere:

• SEP-IRA's: A Primer and a Funding Strategy @ Lazy Man and Money
• Reducing Taxes & Increasing Retirement All In One Package @ BizOp Blogs
• Tax Savings Tips for the Small Business @ Technical Papers on Marketing, Security, and More
• Top 10 Tax Tips for the Self Employed @ Taxes
• Basics of the SEP-IRA @ Find Freedom

The Self-Employed Nightmare by Rev. Santino