The Switch from a SEP-IRA

It's an unusual choice, but there's nothing to stop a small-business owner converting to a 401(k) and borrowing against the account

By Karen E. Klein

Q: I am 100% owner of a small, subchapter S company and I have a SEP-IRA that has built to $80,000 over the last 15 years. My outfit has contributed the funds into my account. May I rollover them into a 401(k) under the new EGTRRA rules? -- S.T., Duluth, Ga.


The Economic Growth & Tax Relief Reconciliation Act of 2001 (EGTRRA) was significant tax legislation signed by President George W. Bush in 2001. It included a number of major provisions, including changes in the estate-tax rates and amended pension-plan rules. You can take a look at the pension provisions, including a section on rollovers, by visiting the Web site of the Society of Actuaries.

With respect to your particular situation, a rollover of your SEP-IRA funds into a 401(k) is indeed permitted under EGTRRA, says CPA Gregg Wind of Wind & Associates in Marina del Rey, Calif. A 401(k) is an uncommon choice for a small corporation, Wind says, but not unheard of.


  "I guess the obvious benefit for someone wanting to roll a SEP-IRA into a 401(k) is simplicity. Rather than having separate accounts from separate plans, the funds can be consolidated into a smaller number of accounts, or even one account," he notes. "Another benefit is that a 401(k) affords some degree of creditor and legal protection, as a 'qualified' retirement plan, while a SEP-IRA, like a regular IRA, does not."

A 401(k) plan also can including borrowing provisions, allowing the account holder to take out a loan against the account, says Wind, who adds that the amounts must be evidenced by a promissory note and repaid in accordance with the terms of an amortization schedule. By contrast, borrowing against a SEP-IRA (or regular IRA) account is generally not permitted.

If you decide to proceed with the rollover -- and Wind says he does not see any significant drawbacks -- Wind recommends arranging for a "direct rollover," meaning that the funds will be sent directly from your existing account to the new plan administrator. Such distributions are not subject to the mandatory 20% federal income-tax withholding. If you receive the money from your current SEP-IRA administrator or custodian, you will have to reinvest it within 60 days or the distribution will become taxable.

Editor's note: When it comes to marketing, Corporate America bandies about big words -- branding, product launches, value-added -- and backs them up with bigger bucks. Meanwhile, small-business owners implement huge marketing efforts on small budgets. BusinessWeek Online's SmallBiz would like to recognize these small businesses, give their strategies a boost, and share their successes. So, if your marketing drive achieved good results, send us an e-mail at and tell us what you're doing. We will choose the most interesting submissions, interview the business owners, and have a marketing expert comment.

Have a question about running your business? Ask our small-business experts. Send us an e-mail at, or write to Smart Answers, BW Online, 46th Floor, 1221 Avenue of the Americas, New York, NY 10020. Please include your real name and phone number in case we need more information; only your initials and city will be printed. Because of the volume of mail, we won't be able to respond to all questions personally.

Before it's here, it's on the Bloomberg Terminal.