SEP IRA

A SEP is among the simplest retirement plans a business can run. The employer signs a written agreement, usually the IRS model Form 5305-SEP or a provider’s prototype document, and each eligible employee gets a SEP-IRA at a bank, brokerage or insurer. There is generally no annual filing with the IRS.

Only the employer puts money in, and it decides each year whether to contribute at all. In a year it does, the same percentage of pay must go to every eligible employee, owners included. The money is 100% vested from the first day, and employer contributions carry no income-tax withholding, Social Security or Medicare tax for the employee.

The plan must cover anyone who is at least 21, has worked for the business in at least 3 of the last 5 years, and earns at least $800 in 2026. A plan may use looser rules, such as immediate eligibility, but never stricter ones.

Once deposited, the money follows traditional IRA rules. Withdrawals are ordinary income, the 10% early withdrawal penalty generally applies before 59½, loans aren’t allowed, required minimum distributions eventually begin, and the balance can be rolled over into most IRAs and workplace plans.

For each employee, the employer’s contribution can’t exceed the lesser of 25% of that person’s compensation or $72,000 for 2026. Only the first $360,000 of pay counts toward the 25%. The $72,000 is the same annual additions ceiling that caps a 401(k), and it applies across all the defined contribution plans your business maintains, so a business that runs a SEP and a profit-sharing plan must add the two together.

A SEP has no employee salary deferrals and no catch-up contributions, because catch-ups exist only for employee deferrals. Turning 50 therefore adds no room inside the SEP, although you can still make your own IRA contributions on top. Without that deferral layer, a SEP shelters less at modest incomes than plans that have one; the 2026 contribution limits show how the ceilings stack.

Contributions for a year are due by the business’s tax-return due date, including extensions. If you didn’t get an extension, the deadline is the original due date, and a deposit made after it can’t be deducted for that year. Contributions above the limit become taxable income to the employee and face a 6% excise tax for every year they stay in the IRA, unless the excess and its earnings come out by the employee’s tax-filing deadline.

If you work for yourself, the 25% limit applies to compensation that already has your own contribution subtracted, which is circular. The IRS resolves it with a reduced rate: a plan rate of 25% becomes 20% of your net earnings from self-employment, and net earnings here means net profit minus the deductible half of your self-employment tax.

Work it in three steps. First, figure self-employment tax at 15.3% of 92.35% of profit, with the 12.4% Social Security part stopping at the 2026 wage base of $184,500. Second, subtract half of that tax from profit. Third, multiply by 20% and stop at $72,000. Publication 560’s rate table does the same for any plan rate; a 10% plan, for instance, becomes 9.0909% for the owner.

The owner’s contribution is deducted on the personal return as an adjustment to income, not on Schedule C. It lowers income tax but not self-employment tax, which is already figured on the full profit.

A SEP’s weakness is that every dollar has to come through the employer’s percentage-of-pay formula. A solo 401(k) lets the same owner add an employee deferral of up to $24,500 for 2026 on top of the same 20% employer amount, plus an $8,000 catch-up from age 50, so it holds far more at small and middle incomes. The SEP reaches the $72,000 ceiling only when net earnings after the half-tax deduction hit $360,000; the solo 401(k) gets there at $237,500, and above that only its catch-up adds more.

A SIMPLE IRA works the other way round. Employees save from their own pay, and the employer must generally add a match of up to 3% of pay, or 2% of pay, every year, while in a SEP only the employer contributes and it can skip a year.

With staff, the SEP’s uniform-percentage rule sets the price. Every eligible employee gets the plan rate on their pay while the owner gets the reduced rate on net earnings, so raising the owner’s contribution raises everyone’s. The table prices that trade for a business with one employee paid $60,000 and an owner left with $150,000 of net profit after the employee’s pay and deposit.

Most SEP problems come from treating the plan like a personal IRA rather than an employer plan with rules about who must be covered and how much each person gets. IRS correction programs can fix many errors, but a fix generally means making up missed contributions with earnings. The plan document sets the rules, so check its eligibility and allocation terms again before each year’s deposit. Errors to watch for: