Payments made to a Simplified Employee Pension (SEP) IRA are tax deductible for employers. However, there is a maximum limit on how much may be deducted each year. As of 2019, employers can contribute as much as 25% of an employee's gross annual salary or 20% of their net adjusted annual self-employment income (if self-employed), as long as the contributions do not exceed the maximum of $56,000. That maximum sum is up $1,000 from 2018 ($55,000).

Additionally, business owners who start up a SEP IRA may be eligible for a tax credit of up to $500 per year for the first three years that the SEP IRA account is open.

A SEP IRA is a type of traditional IRA available to self-employed individuals, freelancers, and small business owners. Employees are not able to contribute to a SEP IRA that the company they work for opens for them.

What Is the Eligibility for an Employer’s SEP IRA?

As of 2019, employers can set up a SEP IRA and make contributions for any employee who is:

  • age 21 or older
  • has worked for the employer for at least three of the previous five years
  • has been paid at least $600 in earned income from your business for the year

How Much Can You Contribute to a SEP IRA?

The maximum contribution limit for SEP IRAs varies from year to year. As of 2019, employers can contribute up to 25% of each employees’ gross annual income or $56,000, whichever is less. For 2018, the maximum amount is $55,000. The same limits apply to self-employed individuals and freelancers. However, even though there is a maximum amount of contributions that can be made each year, employers are not required to contribute to their employees' SEP IRAs annually.

For individuals who are not self-employed, as per IRS rules compensation used to determine SEP contributions includes the following:

  • wages, tips, and other compensation from the employer subject to income tax withholding under section 3401(a),
  • amounts described in Internal Revenue Code Section 6051(a)(8), including elective contributions made under a SIMPLE IRA plan, and
  • compensation deferred under a 457 plan.

Compensation does not include amounts deferred under a Section 125 cafeteria plan. Compensation that can be considered in figuring contribution allocations is limited to $280,000 in 2019 and $275,000 in 2018.

SEP IRA Contribution Deadline

The deadline for establishing a SEP IRA plan and making contributions is the filing deadline for the employer's tax return, including extensions. Catch-up contributions are not allowed in SEP IRAs, as they are made by individuals rather than employers.