Why SEP IRAs Make Sense for Small Business Owners
By James Blake, VP, ADP Broker-Dealer Operations in ADP's Small Business Retirement Services group
A SEP (Simplified Employee Pension) can be a viable retirement plan for small business owners, their employees and self-employed individuals, helping build retirement savings while earning tax benefits.
Ten percent of the U.S. workforce is self-employed. For some, this makes retirement planning especially challenging, as they can't rely on employers to offer a retirement plan or provide a matching contribution.
But there's a low-cost and simple retirement savings option to benefit these workers. Simplified Employee Pensions (SEP) retirement plans were designed for self-employed individuals and small businesses, allowing employers to help employees save while taking advantage of potential tax benefits.
These plans work by enabling employers to contribute to an employee's SEP Individual Retirement Account (IRA). What is a SEP IRA? It's an employee account in which contributions are made solely by the employer. No funds are deducted from employees' paychecks. While they can't contribute to their own SEP retirement plan, they still benefit from their employer's contributions.
Advantages of a SEP
As the name implies, SEPs are known for their simplicity. Sole proprietors, partnerships and corporations can establish SEPs without filing any documents with the government. Plan sponsors have the freedom to decide how much to contribute each year, or if they want to continue making contributions at all. Contributions may be adjusted at any time based on a company's unique financial situation.
Contributions to this type of IRA are tax-deductible for employers. So businesses can potentially lower their taxable income and reduce their overall tax liability. Employers may also be eligible for a tax credit of $500 per year for the first three years, helping to cover the cost of starting of plan. Plus, contributions to a SEP IRA grow tax-deferred until retirement, allowing employees to boost their savings over time.
Traditional SEP IRA s. Roth SEP IRA
SEP retirement plans allow employers to contribute the lesser of 25% of their compensation or $69,000 (for 2024).
With a traditional SEP IRA, employer contributions are made on a pre-tax basis and distributions may be made at any time. Any withdrawal from a traditional SEP IRA will count towards and employees' taxable income. However, withdrawals made before the age of 59½ may incur a 10% penalty. Like a traditional IRA, the IRS requires participants to take required minimum distributions (RMDs) beginning the year they turn 73.
Roth SEP IRAs were created in 2023 as part of the SECURE 2.0 Act. Employer contribution are taxable to the employee in the year they are made to the plan. Participants may take out contributions at any time without tax or penalty, but any earnings withdrawn prior to age 59½ are subject to a 10% tax penalty. There are no required minimum distributions.
Setting up a SEP
Getting started is a straightforward process. Plan sponsors must execute a written agreement, provide employees information about the agreement and establish a SEP IRA for each eligible employee. Each year the employer will determine the yearly contribution amount. Employee participation requirements include:
- Age 21 or older
- Worked for your company for at least three of the past five years
- They've earned a minimum amount of income ($750 in 2022; $650 in 2021 and 2022; $600 in compensation in 2016-2020)
SEP retirement plan: A simple savings solution
From flexibility to low cost to fewer administrative responsibilities, SEP IRAs can be a practical option for today's small business owners and self-employed workers.
To learn more, connect with an ADP retirement planning services specialist to discuss your retirement plan options or call (800) 432-401K .
*Registered representative of ADP Broker Dealer, Inc. (ADP BD), Member FINRA, an affiliate of ADP, Inc., One ADP Blvd, Roseland, NJ 07068 and Associated person of ADP Strategic Plan Services, LLC (SPS) an SEC Registered Investment Adviser. Registration does not imply a certain level of skill or services.
ADP, Inc., and its affiliates do not offer investment, tax, or legal advice to individuals. Nothing contained in this article is intended to be, nor should be construed as, particularized advice or a recommendation or suggestion that you take or not take a particular action. Questions about how laws, regulations, guidance, your plan's provisions, or services available to participants may apply to you should be directed to your plan administrator or legal, tax or financial advisor.
M-606564-2024-09-16
