SEP IRA Equal Percentage Contributions

A SEP IRA has a few unique contribution rules if you have employees in your business. Only an employer can contribute to a SEP IRA; employees cannot contribute to their own accounts. When you make employer contributions, you’re obligated to make equal percentage contributions to every eligible employee’s accounts.

What is the equal percentage contribution rule?

A SEP IRA requires that all employers make equal contributions to their employee’s accounts. Employers are allowed to contribute up to 25% of their compensation up to $61,000 for 2022 and $66,000 for 2023. If you contribute any percentage of your compensation into your SEP, you must also contribute the same percentage into every eligible employee’s SEP IRAs.

For example, if you decide to contribute 10% of your compensation this year into a your SEP IRA, you must also contribute 10% of every eligible employee’s compensation into their accounts.

Employees cannot make contributions to a SEP IRA, themselves. They can only receive contributions made by an employer. However, they still own and direct their accounts and all contributions are immediately 100% vested.

Who is considered an eligible employee?

An eligible employee is any employee in your business that meets all of the following criteria:

Compensation includes all bonuses and commissions.

When you set up a SEP IRA, you must also set up accounts for each and every eligible employee. As mentioned earlier, employees have full control over their accounts. They can choose what to invest in, and are free to make withdrawals or rollover their funds to another retirement plan.

For example, an employee at your company may also have a small side hustle on top of their day job. If they have no full-time employees working for their side hustle, they may open up a solo 401k. A solo 401k gives you a Roth option, ability to take a loan from your account, and a much wider selection of investments. With a SEP IRA, depending on the plan provider, you can usually only invest in stocks, mutual funds, bonds, and ETFs. With a solo 401k, you can also invest in alternative assets like crypto, real estate, and venture capital.

A SEP IRA is best for business owners with a few employees

Because of the equal percentage contribution rule, a SEP IRA is best suited for business owners with just a handful of employees. You’re technically allowed to have as many employees as you like, but it can get expensive if you have to contribute to hundreds of employees’ accounts.

Fortunately, contributions aren’t mandatory every year, like a SIMPLE IRA. If you have a down year, you could choose to skip contributions for the year, or only contribute a smaller percentage of compensation.

Contribution percentages must be the same for every employee

Contributions must be equal for all SEP contributions. You cannot contribute different percentages for yourself or for high or low performing employees. If you contribute 10% of your compensation, all employees must receive a 10% contribution. The percentage cannot be different for any employees, and corrections must be made for any differences.

If contributions made to employees’ accounts were not uniform, you can view this page for steps on how to make a correction.

What if I have zero employees?

If you have zero employees, you don’t need to make equal percentage contributions, and can just contribute to your own SEP IRA. However, having no employees means that you’re also eligible for a solo 401k, which gives you more tax benefits than a SEP IRA.

A solo 401k has a Roth account, the ability to take a loan from your account, and depending on your provider, you could get full checkbook control over your assets. When you open a solo 401k, separate bank and brokerage accounts are made in the name of your solo 401k trust. As the trustee, you can get checkbook control and direct all of your own investments.

A solo 401k is generally more complex to set up than a SEP IRA, but modern solutions like The Carry Solo 401k make opening an account extremely simple, and even comes with integrated bank and brokerage accounts within your plan.