What is an SEP IRA?

Written By Guest Post
Last updated December 11, 2020

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June 22, 2016

Simple. Thrifty. Living.

If you’re looking for a good way to save for retirement while lowering your tax burden, an SEP IRA could offer the advantages you need. SEP IRA stands for Simplified Employee Pension Individual Retirement Arrangement. In many ways, it’s like other IRAs, but there are some details you need to know before you can decide whether this is the right savings option for you.

SEP IRA plans make it more affordable for small businesses and freelance workers to save money for retirement. If you own a small business, then you can set up accounts for your employees. If you work freelance, then you can use this option to save for your own retirement.

When it comes to tax breaks, it’s the employer who benefits from an SEP IRA. The money business owners contribute to the accounts doesn’t get taxed, so they can lower their tax burdens by including SEP IRAs in their employees’ compensation packages. It’s also a good way to lower your tax burden if you work freelance.

Your employees will pay tax when they deduct money from their accounts, but the employer never has to give the government a dime. There is a limitation, however, on how much you can contribute. If you are self-employed, you can avoid taxes on up to 20 percent of your annual net earnings. If you have employees, you can deposit up to 25 percent of each person’s annual income. You cannot, however, contribute more than $45,000 per person.

If you are self-employed, an SEP IRA will lower your tax bill significantly. By paying yourself you’ll end up paying the IRS a lot less.

The tax benefits are obviously nice, but there are other reasons many business owners prefer SEP IRA plans. One of the biggest advantages is that you can choose to forgo contributions during slow years. If your business doesn’t earn much money this year, you can decide not to contribute to your employees’ IRAs. If you decide to do this, though, you cannot contribute money to any employee’s account. Still, that’s a great option for small business owners worried about what next year will bring.

Unlike 401(k) plans, the IRS doesn’t require you to file annual reports for SEP IRAs. This not only lowers the amount of time spent doing paperwork, but helps ensure that you don’t have to pay your accountant more than usual.

If you own a small business and you want to attract talented employees, you may want to set up SEP IRA plans that will help them save for retirement. You’ll also lower your own tax burden without committing yourself to unaffordable contributions. Or if you are self-employed (1099 contractor) you’ll want to set up an SEP IRA to lower your yearly tax burden.

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