SEP IRA Contribution

For small businesses and self-employed individuals, Simplified Employee Pension IRAs (SEP IRAs) offer an easy-to-administer way of providing an IRA plan to benefit themselves and their employees. SEP IRAs allow employers to make contributions directly to individual IRA accounts on behalf of their employees to supplement the contributions made by the employees themselves; however, strict SEP IRA contribution limits are enforced to ensure that these IRAs are treated consistently with other types of IRA accounts. Typically, employees elect to have a portion of their income deferred and added to their SEP IRA accounts; the employer may match a portion or all of the employee’s contributions, as well. In some cases the employer may cover the entirety of the SEP IRA contribution. SEP IRA contributions are tax-deferred until they are distributed at retirement.

SEP IRA contribution limits

The limits on annual SEP IRA contributions vary depending on whether the account holder is self-employed or an employee of a small business; the overall monetary limits are adjusted each year, as well. For 2009, the annual SEP IRA contribution limits for employees were $49,000 or 25% of the individual employee’s compensation; this limit applies to both employer contributions and to the employee’s contributions combined. These SEP IRA limits do not apply to self-employed individuals; instead, a complex calculation must be made using the IRS Publication 560 Deduction Worksheet for the Self-Employed. Generally, self-employed individuals are subject to SEP IRA contribution limits of approximately 18.6% of their adjusted net profit.

Calculating SEP IRA limits for self-employed individuals

Self-employed individuals do not typically receive wages; instead, they earn a profit on their business dealings. As a result, their SEP IRA maximum contribution is limited to a portion of the actual profit made, rather than the entire profit; this provides an even playing field for all contributors to SEP IRA plans. Because employees are limited to 25% of their wages, self-employed individuals also are limited to contributions at the same level. In order to calculate the appropriate amount, self-employed individuals must subtract half the levied FICA tax, currently set at 15.3%, from their net profit in order to derive the adjusted net profit. FICA taxes are applicable to 92.35% of the net profit; this means that the actual SEP IRA maximum contribution for self-employed persons is derived by taking 25% of the adjusted net profit percentage of nearly 93%. This figure is approximately 18.6% of the net profit earned by the self-employed individual.


SEP IRA contribution limits are designed to allow employers, employees, and self-employed individuals to save up comparable percentages of their earned income for their retirement. In practice, few individuals can afford to contribute one-fourth of their income to their SEP IRA; however, the SEP IRA limits ensure an even playing field for all contributors to these valuable retirement assets.
Tim Ord
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