What is a Simplified Employee Pension (SEP) Plan

Shawn Plummer, CRPC

Chartered Retirement Planning Counselor

What is a Simplified Employee Pension Plan (SEP)?

A Simplified Employee Pension Plan (SEP) is a retirement plan primarily used by small businesses or self-employed individuals. It’s a type of Individual Retirement Account (IRA) into which employers can make pre-tax contributions on behalf of their employees, and employees can also make contributions to their own accounts.

Key Features of SEP IRAs

  1. Employer Contributions: Employers can contribute up to 25% of an employee’s income or a maximum annual amount (adjusted periodically for inflation).
  2. Employee Contributions: Employees cannot make traditional contributions like in a standard IRA, but they can make traditional IRA contributions to their SEP IRA.
  3. Tax Benefits: Contributions are tax-deductible for the business, and earnings grow tax-deferred.
  4. Eligibility and Requirements: Employees must be at least 21 years old, have worked for the business in at least 3 of the last 5 years, and received a minimum amount of compensation.
  5. Flexibility in Contributions: Employers are not required to make contributions every year.
Sep Retirement Plan

Advantages of SEP IRAs

  1. Simplicity and Low Cost: Easy to set up and maintain with minimal administrative costs.
  2. Higher Contribution Limits: Allows for significantly higher contributions compared to traditional or Roth IRAs.
  3. Flexible Contributions: Employers have flexibility regarding contributions each year.

Disadvantages of SEP IRAs

  1. No Roth Option: Contributions are pre-tax only; there’s no Roth (after-tax) contribution option.
  2. Required Proportional Contributions: If the employer contributes for themselves, they must contribute proportionally for all eligible employees.
  3. Limited Employee Control: The employer makes all the contribution decisions.

Comparison of SEP IRA, Traditional IRA, and Roth IRA

FeatureSEP IRATraditional IRARoth IRA
Contribution LimitsUp to 25% of income or max capUp to $7,000/$8,000 (age 50+)Up to $7,000/$8,000 (age 50+)
Tax TreatmentPre-tax contributionsPre-tax or after-taxAfter-tax contributions
WithdrawalsTaxed as incomeTaxed as income (if pre-tax)Tax-free
Mandatory DistributionsAfter age 73After age 73No mandatory distributions
Employer ContributionsAllowed and flexibleNot applicableNot applicable

Conclusion

A Simplified Employee Pension Plan (SEP IRA) is an effective retirement savings tool for small business owners and self-employed individuals, offering higher contribution limits and tax benefits. While it offers flexibility and ease of use, it lacks a Roth option and requires proportional contributions for all eligible employees. Understanding these features can help in deciding if a SEP IRA is suitable for your retirement planning needs. Contact us today for a free quote.

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Questions From Our Readers

Who can set up a Simplified Employee Pension (SEP) Plan?

A simplified Employee Pension (SEP) Plan can be set up by employers with fewer than 25 employees or self-employed individuals.

How much can employers contribute to their employees’ SEP-IRA accounts?

Employers can contribute up to 25% of their employee’s compensation or $66,000 (for 2023), whichever is less.

Can employees also contribute to their SEP-IRA accounts?

No, only employers can contribute to their employees’ SEP-IRA accounts.

If I move to another state after I start to get my pension, do I adopt the new state’s policies?

If you move to another state after starting to receive your pension, you will generally be subject to the tax laws and regulations of your new state of residence, including how your pension income is taxed.

Shawn Plummer, CRPC

Chartered Retirement Planning Counselor

Shawn Plummer is a Chartered Retirement Planning Counselor, insurance agent, and annuity broker with over 14 years of first-hand experience with annuities and insurance. Since beginning his journey in 2009, he has been pivotal in selling and educating about annuities and insurance products. Still, he has also played an instrumental role in training financial advisors for a prestigious Fortune Global 500 insurance company, Allianz. His insights and expertise have made him a sought-after voice in the industry, leading to features in renowned publications such as Time Magazine, Bloomberg, Entrepreneur, Yahoo! Finance, MSN, SmartAsset, The Simple Dollar, U.S. News and World Report, Women’s Health Magazine, and many more. Shawn’s driving ambition? To simplify retirement planning, he ensures his clients understand their choices and secure the best insurance coverage at unbeatable rates.

The Annuity Expert is an independent online insurance agency servicing consumers across the United States. The goal is to help you take the guesswork out of retirement planning and find the best insurance coverage at the cheapest rates

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