Can You Exclude Employees From An SEP IRA?

employee sep ira

A Simplified Employee Pension Individual Retirement Arrangement (SEP IRA) is a variation of the individual retirement accounts used in the United States where the employer contributes tax-deductible funds on behalf of eligible employees. It differs from other retirement plans in that solely the employer makes the contributions; in other words, this is free money for the employee and it is exciting! 

If you are the boss of your company or a small business owner, this opens an opportunity for you to create retirement savings plans that are tax-deductible and that works like traditional IRAs for your company. It is structured to best fit small-team business owners or self-employed individuals who would likely not be able to afford other types of retirement plans due to its complicated setup and high cost of administration. 

The SEP IRA is designed for simplicity; it allows businesses the freedom to sponsor the pension of its employees while still having an IRA structure. Therefore it is less costly, difficult or burdensome making it more preferable to other 401k accounts. And since it is the employer that makes contributions into the employee’s accounts rather than employees making for themselves, there is therefore no need for matching. 

Similarities Between SER IRAs And Traditional IRAs 

• Both Traditional IRAs and SEP IRAs can serve different purposes for different people. 

• In both Traditional IRAs and SEP IRAs, withdrawals can only be made when the beneficiary reaches the age of 72. 

• SEP IRAs are largely treated like Traditional IRAs for tax purposes, it allows similar investment options. 

• In rules, the same transfer and rollover that applies to SEP IRAs is the same for Traditional IRAs. 

Difference Between SEP IRAs And Traditional IRAs 

• In traditional IRAs, employees contribute pre-tax income into your 401K retirement account, this helps reduce the employee’s taxable income (this implies that your tax are deferred), meanwhile, in the case of the SEP IRAs, an account is set up by an employer to make contributions on behalf of eligible employees. The employee is not taxed for this contribution. 

• Compared to Traditional IRAs, SEP IRAs have a higher annual contribution limit of 25% maximum. 

• Unlike the Traditional IRAs, SEP IRAs are not locked in to yearly contribution-decision about how much to contribute and when. The employer is solely responsible for making such decisions. 

• There is no alternate Roth option for the SEP-IRA as there is for the traditional IRAs; There are no restrictions with the Traditional IRAs as there are no income restrictions and anyone can easily do a backdoor Roth IRA. 

Eligibility For SEP IRA

Who can be excluded OR included is dependent on eligibility, AS a matter of fact, you qualify for SEP IRA as long as you have clocked 21 years of age, you have worked for the employer or have been self-employed for 3 of the last 5 years and you have received a minimum of $600 compensation from the business as at the year of consideration. 

As a self-employed individual, SEP IRAs are a wonderful option. However, before you begin hiring, you must bear in mind that you are willing to contribute to the account of all your employed staff who are eligible to participate and it is equal to the same percent of the salary of each of the persons in your company, including the employer. The good news, however (for employers) is that it doesn’t have to be annual. So, the decision on when to contribute and how much to contribute varies from time to time. 

As an employer, you may choose to consider the basic eligibility status of employees and exclude those who do not meet up this age, time of service, or compensation requirements. Other reasons by which employees can be excluded are; 

1. The employee is covered by a union agreement and the retirement benefits were discussed and agreed upon by yourself and the employee’s union. 

2. The employee is a nonresident alien who has no source of compensation in the US. 

Any exclusion that is not in line with this narrative should be considered and the mistakes rectified. 

Pros And Cons Of SEP IRAs

To determine if SEP IRA is the best fit for your business, let us consider some pros and cons of the SEP IRAs. 

In advantage, SEP IRA provides a tax-deferred retirement savings and is a great option for the high income earners with a higher limit of contributions, it therefore has an added advantage of compounding interest that will grow your savings faster overtime. Seeing this grows exponentially, as more money is added into the account, it accumulates larger interests. Another advantage of the SEP IRA is its flexibility with regards to contribution as it doesn’t need to be every year. 

On the other hand (in disadvantage), employees' accounts must be treated in the same way. This becomes a threat if you desire to hire more employees as the amount you may be able to contribute would significantly reduce with an increase in the number of eligible employees needing contributions. 

Additionally, there is room to make catch-up contributions once an employee exceeds the age of 50, as in the case with other retirement savings accounts like the 401Ks, Although since there is room to make higher contributions, this could make up for that. 

While your money is free to grow tax-free, you will be taxed on account contributions when you reach the point of distributions retirement. Additionally, you are required to begin taking required minimum distributions at the age of 72. 


In conclusion, your choice of whether or not to use SEP IRAs will largely depend on your vision for your company in the future. Seeing that all employee accounts would be treated equally and the contribution to every account will be at the same rate, SEP IRAs may not be the best choice for your business if you are hoping to expand in the nearest future. 

For individuals who would want to remain the sole member of their company for the future, or hope to retain only a few manageable employee number; SEP IRAs can provide a wonderful boost for tax sheltering and can save you tens of thousands of dollars in tax through your years of business.

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