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Greetings, Kse4, and welcome. You wrote:

<<The short version: My spousal unit and I both took jobs in Hong Kong. His is a 3-year contract, mine a 1-year. He's a college prof., I design web sites. Never having had to deal with contract positions before, we turned to (local smalltown) professionals for advice and ended up establishing SEPs for ourselves in the US, to which we've been wiring $$ monthly. We did this through Edward Jones. From Sept. to Dec. '98 we deposited $4000, and at least that much since.

Now a tax consultant here in Hong Kong informs us that we are, strictly speaking, employees, not contractors and are therefore not entitled to SEPs. (Actually, we're not entitled to any retirement plan at all, best we can figure. Spouse gets a 15% gratuity at the end of 3 years, but otherwise the U. here makes no provision for retirement. This is the rule, not the exception, in Hong Kong.)

So I have two questions for all you brilliant minds out there: Do we owe a fat penalty on the money we've put aside so far? I mean, we have to undo the SEPs altogether, but since we're not yet accountable for 1998 taxwise... (we are paying estimated taxes, though. Have to, from here on out.)>>

Uh, oh. You have offended the IRS to such an extent that you will now forfeit the balance in the SEP, your house, your car, and your first-born child. Unless, that is, you take steps now to rectify the situation. You have until April 15 following the tax-year of contribution to remove those funds and the earnings from the SEP. The situation may not be as bad as it appears on the surface, but that depends on what happened in 1998.

You say you only contributed $4K last year. With $2K for you and $2K for your spouse, that's the amount that could have been put into a traditional IRA. As long as both of you did not participate on any single day in a qualified retirement plan through work (i.e., 401k or company pension plan), then those contributions would also be fully deductible. They're definitely deductible for 1999. Thus, as I see it (and I hasten to add that this must be discussed with your tax advisor), you could have Edward Jones change your SEP accounts to traditional IRAs for you and for your husband. If that can't be done, then close the SEP and take everything. Then make a traditional IRA contribution of $2K each for 1998 before April 15 for you and your hubby. Declare any earnings on the SEP as income and pay the 10% early withdrawal penalty. Deposit another $2K in the same traditional IRA for 1999. Any earnings atttributable to those deposits will be declared as income for 1999 and will also be assessed the 10% penalty. The worst that will happen will be the 1998 contributions cannot be deducted and will have to be declared as income along with the earnings thereon. The 1999 contributions definitely can be deducted. So, talk with your tax advisor and with Edward Jones so all can get done by April 15.

<<Secondly, what would you do in our situation? We are each entitled to the $70,000 overseas income exemption, so we can sock big $$'s away, but nothing we invest will have the lovely advantage of tax-free growth. We've been told we're not eligible for IRAs, either. And, we're still subject to Hong Kong income tax, which is pretty much a flat 15% on top of what's taxed by the U.S. >>

I'm puzzled why your tax advisor says you are not eligible for an IRA. You file a tax return, and you have earned compensation. Thus, there's something here I don't understand because that's all that's required. Ask your advisor for details because if that indeed is true, then the IRA route I suggested above won't work for the 1999 SEP deposits. They definitely will for 1998, though, if you had W-2 or 1099 wage income of at least $4K.

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