The SEP IRA is a very unique type of IRA. It even has “Pension” in the name. We’ll break it down so you understand clearly what they are, what they’re for, and who should consider using them.

Video Transcription:
Hi everyone. Erik Bowman here and today we are talking about SEP IRAs. We’re going to talk about who uses them the contribution limits and other specific rules, so you don’t make an error and potentially pay thousands of dollars in penalties to the IRS.

So, what is a SEP IRA? A SEP IRA is a simplified employee pension IRA. Don’t let the word pension fool you though. It is not a defined benefit pension in the traditional sense, it is actually a type of an IRA and there are many traditional IRA rules that apply to a SEP IRA.

Required minimum distributions apply. That’s the forced distribution that is taxable from your SEP IRA at either age 70 and a half or 72, depending on your year of birth. The government wants their tax money. In addition, if you take money out of a SEP IRA prior to age 59 and a half, you may be subject to an additional 10% penalty tax. All distributions from a SEP IRA are treated as ordinary income and are therefore taxable at ordinary income tax rates and excess contribution rules do apply. Where traditional IRAs and set by IRAs differ on the contributions. That’s why small business owners are typically going to use this type of qualified plan because the contribution limits can be much higher. One really significant difference is that only the employer can make contributions into the SEP IRA, employee may not make their own elective deferrals. If the employer is making contributions on the behalf of an employee, the maximum amount of that annual contribution in the year 2020 is equivalent to 25% of the employee’s income. If you’re a sole proprietor, the maximum amount of the contribution is 57,000 based on a percentage of profit.

The other qualified plan that we want to compare it to is a 401k. One of the primary differences between a SEP IRA and a 401k is that no loan provisions are available in a SEP IRA. You can take loans out of most 401k plans. Small businesses are going to typically use a SEP IRA because of the higher contribution limits and because of the low administrative time and administrative costs associated with managing a SEP IRA.

If you have any questions, please feel free to reach out. In addition, you might want to check out our Facebook group called retirement simplified, where we’re discussing all sorts of topics on retirement, and we’d love to see you there as well. Have a great day, and thanks for watching.
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