A Simplified Employee Pension (SEP) IRA is a type of individual retirement account (IRA) designed for small business owners and self-employed individuals. SEP IRAs allow for contributions to be made on a tax-deferred basis, meaning that contributions are not taxed until they are withdrawn in retirement.
Here’s how a SEP IRA works:
- The employer establishes a SEP plan and sets up SEP IRAs for eligible employees, including themselves if self-employed.
- The employer can contribute up to 25% of each eligible employee’s compensation, up to a maximum of $58,000 for 2021. The contribution is tax-deductible for the employer and does not count as income for the employee.
- Employees cannot contribute to a SEP IRA, only the employer can make contributions on their behalf.
- Withdrawals from a SEP IRA are taxed as income and may be subject to a 10% penalty if taken before age 59 1/2.
SEP IRAs offer several benefits, including high contribution limits and tax-deferred growth. They are also relatively easy to set up and administer compared to other retirement plans. However, there are some drawbacks to consider, such as the inability for employees to contribute and the potential for penalties if money is withdrawn before age 59 1/2.
Why get a SEP IRA?