What is a Simplified Employee Pension (SEP) IRA?

February 02, 2024

A Simplified Employee Pension (SEP) is a flexible Individual Retirement Account (IRA) suitable for self-employed individuals and small-business owners. Employers receive a tax deduction for discretionary contributions to SEP IRAs, allowing tailored contributions based on business performance. SEP IRAs offer higher contribution limits than traditional IRAs, making them an attractive option for maximizing retirement savings, especially for businesses with few employees. Overall, SEP IRAs provide a tax-efficient and adaptable solution for building a robust retirement fund.

Full transcript:

Hello, welcome to Arista Advice! Question of the week is: "Paul, what is a Simplified Employee Pension (SEP) IRA?" Once again, here's another acronym in our industry, Simplified Employee Pension (SEP) IRA, is an individual retirement account that an employer or a self-employed person can establish for their retirement.

The employer is allowed a deduction for offering and providing a SEP IRA, and also for contributing on behalf of the employee. Third is the SEP IRAs are best for self-employed people or small business owners with few or no employees. Let's look at the graph to discuss it. The pros - high contribution limits, hassle-free for employees, you get tax deferred growth, you get tax deduction for the employers, a 100% of the money is always vested, and it can be combined with other IRAs.

What are the cons or the not so good? There's no catch up contributions, the employees cannot contribute. The required minimum distributions do kick in at either age 70 and a half, 72 or 73 depending upon your age. And finally, there's no other vesting options, but Paul, how does a SEP IRA compare to a 401(k)? Let's review and discuss.
Number one, with a SEP IRA, low paperwork and low maintenance. Contribution limit - $61,000 is the max. It's limited to 20% of the self-employed or 25% if it's an S Corp. It's funded by the employer. It's funded with pretax income and the vesting is immediately. What's the good with the 401(k)? Paperwork is high, maintenance is high. Contribution limits range from anywhere from 22,000 to 30,000 that can be contributed. Also, the 401(k) can have a profit sharing attached to it that could also move it up to 66,000. It is funded by the employer and employee. It's pre and post-tax, so inside of a 401(k) you can have a Roth 401(k) that can capture all of that money. And fourth, you can do it throughout the year, and you can have a multi-year immediate vesting schedule, which would not give you the immediate like a SEP IRA, but would give you a vesting schedule to capture all that money.

And in conclusion, SEP IRAs can be a great option for self-employed people or small business owners. SEP IRAs can offer higher contribution limits than traditional IRAs, making them a valuable option for retirement savings and particularly for businesses with a few employees.

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