As a self-employed individual or small business owner, establishing a Simplified Employee Pension (SEP) Plan can be a strategic move to secure your retirement and provide benefits for your employees.

What Is a SEP Plan?

A SEP plan is an Individual Retirement Account (IRA) that offers a streamlined approach to retirement planning for self-employed individuals and small business owners. Its primary advantage lies in its simplicity and lower operating costs compared to traditional retirement plans.

SEP Plan Benefits

• Employer contributions only: Unlike a 401(k), only the employer contributes to a SEP plan.
• No filing requirement: There is no annual filing requirement with the IRS.
• Low cost and easy administration: SEP plans are cost-effective and straightforward to establish and maintain.
• Flexible contributions: Employers can adjust contributions each year or even skip contributions, depending on business circumstances.
• Inclusive coverage: Employers can set up SEP accounts for themselves and their eligible employees simultaneously.
• Tax-deferred growth: Contributions are tax-deductible, and investments grow tax-deferred until withdrawal.

SEP Plan Drawbacks

• Uniform contributions: Employers must contribute the same percentage of compensation for all eligible employees, including themselves.
• No Roth option: SEP plans do not allow for after-tax (Roth) contributions.

Eligibility Requirements

An employee or self-employed individual is eligible for a SEP plan if they:

• Age: Are at least 21 years old.
• Service: Have worked for the employer in at least three of the last five years.
• Compensation: Have received at least $750 in compensation during the current year.

Employers may set less restrictive eligibility requirements but cannot impose stricter ones.

Employee Exclusions

• Union members: Employees covered by a union agreement that includes retirement benefits.
• Non-resident aliens: Employees who have not earned U.S. source income.

How Does a SEP Work?

To establish a SEP plan:

1. Set up the plan: Complete IRS Form 5305-SEP or an equivalent document.
2. Choose a financial institution: Select a bank or financial institution to hold the SEP-IRA accounts.
3. Inform employees: Provide eligible employees with information about the SEP plan.

SEP Plan Contribution Limits

For 2025:

• Contribution Limit: Employers can contribute up to 25% of an employee's compensation, with a maximum of $70,000.
• Compensation Cap: The maximum compensation considered for contributions is $350,000.

Self-employed individuals calculate contributions differently due to the consideration of net earnings and self-employment taxes.

Withdrawing From a SEP Plan

• Withdrawals: Permitted at any time, but subject to the same rules as traditional IRAs.
• Taxes: Withdrawals are taxed as ordinary income.
• Early withdrawals: Distributions taken before age 59½ may incur a 10% early withdrawal penalty.
• Rollovers: Funds can be rolled over tax-free into other retirement accounts.

Maintaining Your SEP Plan

• Contributions: Must be made by the employer's tax filing deadline, including extensions.
• Employee control: Once contributions are made, employees manage their SEP-IRA investments.
• Annual review: Regularly review the plan to ensure compliance with IRS regulations.

Takeaway

A SEP plan offers a straightforward, tax-advantaged method for self-employed individuals and small business owners to save for retirement while providing benefits to their employees. Staying informed about current contribution limits and eligibility requirements is essential for maximizing the plan's advantages.