Simplified Employee Pension Individual Retirement Plan (SEP IRA) Contributions

Tax Strategy
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Retirement
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Updated
2/18/2023

How It Works

The Simplified Employee Pension (SEP) strategy is a tax deduction that self-employed individuals, business owners, employers, and those earning freelance income take by contributing to employee IRAs, including the business owner’s IRA. The business deducts the contribution from its income, resulting in tax deferrals for the business owner. This deduction is available to sole proprietorships, partnerships, or S and C corporations.

Eligibility

Any employer can contribute to a SEP IRA, including self-employed taxpayers such as freelancers and independent contractors.

Action Items

To set up the SEP IRA:

  • Select the financial institution, such as a bank or brokerage firm, that will administer the SEP IRA.
  • Sign the adoption agreement and other paperwork before the business' federal income tax return due date.
  • Provide eligible employees with information about the SEP, including pricing, benefits, instructions, and an application to open the account.

To make annual SEP IRA contributions:

  • Confirm that participating employees are 21 or older, have earned at least $600 in the tax year, and worked for the employer for at least three of the last five years.
  • Make contributions to the employee's SEP IRA(s) before the business' federal income tax return due date, including extensions.
  • Notify employees of the contribution.

Limits (2023)

Contributions to an employee's SEP IRA can't exceed the lesser of (a) 25% of the employee’s compensation or (b) $66,000.

For sole proprietors who report their business income on Schedule C, the business owner's SEP IRA contribution is limited to the lesser of (a) 20% of their net business income or (b) $66,000.

IRC References

I.R.C § 408K - Individual retirement accounts

For purposes of this title, the term “simplified employee pension” means an individual retirement account or individual retirement annuity—

(A) with respect to which the requirements of paragraphs (2), (3), (4), and (5) of this subsection are met, and

(B) if such account or annuity is part of a top-heavy plan (as defined in section 416), with respect to which the requirements of section 416(c)(2) are met.

This content is for informational purposes only and does not constitute legal, business, or tax advice. You should consult your own attorney, business advisor, or tax advisor regarding matters mentioned in this post. We take no responsibility for actions taken based on the information provided.

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