For those who are self-employed, retirement savings should be at the forefront of your mind. You’re in the driver’s seat, and your options are plentiful to ensure a good fit for your business. But understanding what’s best for your situation can be confusing. This quarter we’re focusing on the types of retirement accounts for the self-employed and breaking down the characteristics, advantages, and disadvantages of each. In this article, we’ll discuss a simplified employee pension individual retirement account (aka SEP IRA).

First, what is a SEP IRA? Quite simply, it’s a basic retirement account for business owners. Investment gains grow tax-deferred until retirement and are taxed as ordinary income at distribution. Now let’s take a look at the pros and cons.

Advantages of a SEP IRA


A big advantage of a simplified employee pension is, well . . . its simplicity! A SEP IRA is not a qualified plan, which means it does not fall under the IRS Code form and reporting requirements that other retirement plans do. There are few administrative burdens, including limited paperwork and no annual reporting to the IRS.

Another advantage is that a SEP IRA can be established as late as the tax filing deadline for the previous year, whereas many other plans have year-end deadlines.

High Contribution Limits

A SEP IRA has one of the highest contribution limits of retirement plans and can help employees aggressively save, provided your business generated enough profit. For 2024, a participant can contribute the lesser of $69,000 ($66,000 for 2023) or 25% of compensation or 20% of net self-employment earnings. It is important to note there is a cap on compensation of $345,000 ($330,000 for 2023). It’s also important to keep employee participation rules in mind. We discuss those rules below under “Participation Requirements.”

While the contribution limit for a SEP IRA is a fairly high dollar amount, many self-employed individuals intentionally pay themselves a small salary and claim as many expenses as they can in order to minimize taxable income. Unfortunately, that means the amount they are allowed to contribute to a SEP IRA is negatively impacted. In our experience, the contribution limits are far more often limited to 20% of net self-employment income or 25% of compensation. Less often do we see self-employed individuals who are able to contribute the full $69,000 (the 2024 limit) to a SEP IRA.

Tax-Deductible Contributions

You can deduct the amount contributed to a SEP IRA. And contributions made to employee accounts are also tax-deductible.

Dual Plan Participation

Even if you already participate in another employer’s plan, you can use a SEP IRA for your self-employment income.

Flexibility on Contributions

Based on business circumstances, employers have flexibility as to whether they contribute to a SEP IRA each year. For example, in a year of lower revenue or high costs, there is no requirement to contribute. Again, participation requirements pertain to each eligible employee.

Disadvantages of a SEP IRA

Participation Requirements

The fact that a SEP IRA is not a qualified plan also gives it some unique rules that affect the plan sponsor, including broader employee participation requirements, which also requires employer contributions for each employee. Under SEP IRA rules, employers can be flexible in the years they contribute to the plan. But when choosing to contribute, employers must provide an equal percentage of salary to all employees who:

  • Have attained age 21;
  • Worked for the employer for at least 3 of the last 5 years; and
  • Received at least $750 of compensation for 2024.

If you’re a small business with employees, and your primary goal with selecting a retirement plan is to choose a plan for your own retirement while minimizing the cost of contributing to employee accounts, the participation requirements are a drawback. However, if you’re looking for a plan that allows for contributions to employee accounts, and you view the cost as a benefit for your employees, this might not be a disadvantage at all!

Limited Roth Options

Prior to 2023, SEP IRAs were funded entirely with pre-tax contributions. Beginning in 2023, the IRS began allowing contributions to SEP IRAs to be Roth. Roth contributions are made with dollars that have already been taxed, so contributions do not lower your current tax bill, but the growth is tax-free. Roth can be a big benefit for those who are in lower tax brackets now compared to where they will be when they are making withdrawals. However, because Roth SEP IRAs are so new, there are very few (if any) financial institutions that allow them. For now, Roth IRAs and Roth Solo 401(s) have the edge when it comes to Roth contributions.

No Catch-Up Contribution

Unlike other types of retirement accounts, a SEP IRA does not offer a catch-up contribution for participants aged 50-plus. The catch-up contribution is a feature in other types of retirement plans, such as Traditional and Roth IRAs as well as a Solo 401(k), which will be discussed in more detail in an upcoming blog article.

Penalties on Distributions Before 59½

Like many retirement plans, a SEP IRA does not offer liquidity before age 59½. Unless they fall under the early withdrawal exception, withdrawals made before 59½ incur a 10% penalty. This limitation is common in retirement plans, and it’s an important consideration if liquidity is needed.

How Do I Open a SEP IRA?

First, it’s necessary to discuss what’s best for your situation with a financial planner or tax professional.  If you decide a SEP IRA is right for you, and you want to manage the investments within that account on your own, there are several financial institutions that offer online account-opening. If you want help managing the investments, or if you want help with holistic financial planning, reach out to us to find out how we might be able to help you. Once you’ve chosen a provider, a formal written agreement must be established through IRS Form 5305-SEP or through your account provider. Information about the plan must be provided to eligible employees, and then accounts are opened for those participating.

Under the right circumstances, a SEP IRA can be a good option for business owners. However, it’s important to weigh the pros and cons of each type of plan before making a decision. For more retirement insights, check out our variety of blog articles related to saving for retirement and other retirement planning topics.