LLC Partnersips and retirement accounts

[ljwdc]

I do independent consulting part time.  I have a single member LLC set up and I am taxed as a pass-through entity (i.e. not taxed as an S Corp).  I do not have any employees and I do not pay myself a salary. I currently have a SEP IRA set up. 

I also work part time at a company as an employee (in a different field of business), where I contribute the max allowed by the IRS to that company's 401k plan.

I have been talking with a colleague about joining me in my business.  My partner will not be an employee and we will not hire any employees. We do not have/will not have any assets.  Our distributions will be based on the consultant fees we each earn less a share of the expenses, so the % will change every year. I am assuming my business would go from being a single member llc to a multi-member llc.

1-How do retirement contributions work?  I want to save the max I possibly can (25% of net earnings up to cap of $57k less my other 401k contributions).  My partner does not want to contribute anything to a retirement account right now.  Can we each have our own SEP-IRA's and contribute what we want to? is the max contribution for each of us still 25% of net earnings up to cap?

2-Do I need to notify the IRS?

3-Assuming we will each need a K-1 at the end of the year?  Do our respective retirement contributions get recorded on K-1?

Thanks.

[Critter]

Just to clear a couple of things up, an s corporation is a pass-through entity and a single member LLC taxed on a schedule c form is a disregarded entity.

[dmertz · Accepted solution]

" (25% of net earnings up to cap of $57k less my other 401k contributions)"

That's incorrect.  As a single-member LLC, the maximum SEP contribution is 20% of net earnings.  Net earnings are your net profit on Schedule C minus the deductible portion of self-employment taxes up to the section 415(c) limit, $57,000 for 2020.  It's unaffected by anything regarding the 401(k) at your other job.

If you change to a multi-member LLC, the LLC will need to file a partnership tax return and contributions made to the SEP plan under the partnership, with the contributions reported with code R in box 13 of the Schedule K-1 (Form 1605).  The maximum contribution will still be 20% of net earnings, but net earnings will then be the amount reported with code A in box 14 of the Schedule K-1 minus the deductible portion of self-employment taxes.  Furthermore, the SEP contributions for both partners must be the same percentage of net earnings (limited by the 415(c) limit).  SEP contributions are employer contributions, not employee deferrals.

The partnership must establish the SEP plan and a SEP-IRA must be established for each partner to receive the SEP contributions.  The SEP-IRA custodian reports SEP contributions on Form 5498, no other notification to the IRS is required.  However, the SEP plan must be established using an approved agreement such as Form 5305-SEP, retained in the partnership's files.

(Although the maximum base rate is 25%, because the SEP contributions are employer contributions, the SEP contributions themselves reduce the amount which is multiplied by the maximum 25% base rate.  The result is an adjusted maximum rate of 20%.)

[ljwdc]

Fortunately my consulting area is not tax law and accounting 🙂 I know just enough to be confused but I am actually interest in understanding this better and I appreciate the explanation! I know that I am not an S-Corp.

[ljwdc]

Ah-ok, thanks.

is there legal pass-through type partnership structure where we can each contribute a different amount to a retirement account? It’s frustrating that the IRS makes both partners contribute exactly the same %. 

[dmertz]

A 401(k) plan or a SIMPLE IRA plan would allow elective deferrals against which the partnership could (or in the case of a SIMPLE IRA plan, generally must) provide matching contributions.  If either of these plans was adopted by the partnership, no contribution would have to be made for any partner that did not make elective deferrals.  With only partners in the company and no regular employees, a one-participant 401(k) (a misnomer) could be established which has less involved annual reporting requirements than a 401(k) intended to cover regular employees and would not be subject to anti-discrimination testing.