A SEP IRA contribution is an employer-funded retirement deposit that can be up to 25% of an employee’s compensation or $72,000 for 2026, whichever is less. For self-employed individuals, the same plan applies, but the math works a bit differently because you’re both the employer and the employee. Either way, SEP IRAs offer one of the highest contribution ceilings of any retirement account available to small businesses and solo operators.
How the Contribution Limit Works
The cap has two parts, and both must be satisfied. Your contribution cannot exceed 25% of the employee’s compensation, and it cannot exceed the annual dollar ceiling ($72,000 for 2026). The dollar ceiling adjusts periodically for inflation. For most small-business owners and their employees, the 25% rule is the binding constraint. You’d need compensation of $288,000 before the flat dollar cap becomes the limiting factor.
Contributions are always made by the employer. Employees don’t defer part of their paycheck into a SEP IRA the way they would with a 401(k). The employer decides how much to contribute each year, and that amount goes into each eligible employee’s individual SEP IRA account. If you contribute for yourself, you must contribute the same percentage of compensation for every eligible employee.
The Self-Employed Calculation
If you’re a sole proprietor, freelancer, or independent contractor, you can still use a SEP IRA, but you can’t simply multiply your net profit by 25%. The IRS requires two adjustments that reduce your effective contribution rate to roughly 20% of net earnings.
First, you subtract the deductible half of your self-employment tax from your net profit on Schedule C. Self-employment tax covers Social Security and Medicare, and the deductible portion is about 7.65% of your net earnings. Second, because your SEP contribution itself reduces the compensation figure it’s based on, the IRS uses a “reduced rate” formula: divide the plan contribution rate by one plus the plan contribution rate. For a 25% plan, that’s 0.25 divided by 1.25, which gives you a reduced rate of 20%.
Here’s a simplified example. Say your Schedule C net profit is $150,000. You subtract roughly $10,597 for the deductible half of SE tax, leaving $139,403. Multiply that by the 20% reduced rate, and your maximum SEP contribution is approximately $27,881. The IRS provides a worksheet in Publication 560 that walks through each step, and most tax software handles it automatically.
Who Must Receive Contributions
If you have employees, you can’t limit SEP contributions to yourself alone. Any employee who meets all three of the following criteria must be included:
- Age: At least 21 years old
- Service: Has worked for you in at least 3 of the last 5 years
- Compensation: Earned at least $750 in the relevant year (this threshold is subject to periodic adjustment)
You can set less restrictive requirements, such as including employees after one year of service, but you cannot make the rules stricter than these minimums. Every eligible employee must receive the same contribution percentage you apply to your own compensation. This equal-percentage rule is one reason SEP IRAs work best for solo operators or businesses with few employees. The cost of covering a large staff at 25% of pay adds up quickly.
Contribution Deadline
You have until your business’s tax filing deadline, including extensions, to both set up a SEP IRA and fund it. For sole proprietors filing on a calendar year, that’s typically April 15. If you file a six-month extension, the deadline stretches to October 15. For partnerships and S corporations, the unextended deadline is March 15, with extensions pushing it to September 15.
This is one of the SEP IRA’s biggest practical advantages. You can wait until you know your final income for the year before deciding how much to contribute, and you can even establish the plan for the first time after the tax year has closed. If you miss the filing deadline without an extension, though, you lose the deduction for that year entirely. The contributions can still be made, but you’d have to deduct them on the following year’s return.
Tax Treatment of Contributions
Traditional SEP IRA contributions are tax-deductible for the employer and not counted as taxable income for the employee in the year they’re made. The money grows tax-deferred inside the IRA, and withdrawals in retirement are taxed as ordinary income. Early withdrawals before age 59½ generally trigger a 10% penalty on top of income tax.
Starting under the SECURE 2.0 Act, employers can now offer a Roth option within a SEP IRA. With Roth SEP contributions, the money goes in after tax, meaning the employee pays income tax on the contribution now but gets tax-free withdrawals in retirement. Employer contributions designated as Roth are not subject to federal income tax withholding, FICA, or FUTA at the time of contribution. This Roth option is relatively new, and not all IRA custodians support it yet, so check with your plan provider before assuming it’s available.
How SEP IRA Contributions Fit Your Situation
SEP IRAs are popular with self-employed individuals and small-business owners because they combine a high contribution ceiling with minimal paperwork. There’s no annual filing requirement with the IRS (unlike a 401(k), which requires Form 5500), and setup is as simple as completing IRS Form 5305-SEP and opening an account at a brokerage or bank.
The flexibility to vary contributions year to year is another draw. In a profitable year, you can contribute the maximum. In a lean year, you can contribute nothing. There’s no requirement to fund the plan every year. That said, whatever percentage you choose in a given year applies uniformly to all eligible employees, so you can’t contribute 25% for yourself and 10% for your staff.
For solo business owners with no employees, a SEP IRA competes directly with a solo 401(k). Both allow similar total contribution amounts, but a solo 401(k) lets you make employee elective deferrals in addition to employer contributions, which can be advantageous at lower income levels. The SEP IRA wins on simplicity, while the solo 401(k) offers more flexibility in how contributions are structured.