- Employers can contribute up to seventy-two thousand dollars or twenty-five percent of compensation for twenty twenty-six.
- Eligibility rules must include part-time and seasonal workers who meet the three-of-five-year service standard.
- Self-employed owners must adjust their net earnings calculation, often resulting in a twenty percent effective rate.
A SEP IRA can be established by a business of any size, including a self-employed person, but the 2026 rules still require written plan terms, employee notices, correct coverage and precise compensation calculations. The largest errors often occur before money reaches an account.
For tax year 2026, an employer’s contribution to an employee’s SEP-IRA cannot exceed the lesser of 25% of compensation or $72,000. The IRS also caps compensation considered for the calculation at $360,000.
Those figures are ceilings, not automatic contribution amounts. A business must apply its plan document, eligibility rules, compensation definition and allocation formula first.
Free toolSubstantial Presence Test CalculatorThe owner’s math is different. A self-employed taxpayer cannot simply multiply gross receipts, net business profit or unadjusted Schedule C income by 25%.
A SEP can be flexible without being informal
A Simplified Employee Pension lets an employer contribute to traditional IRAs established for eligible employees. The employee owns and controls the account, while the employer sends money to the financial institution maintaining it.
Ordinary SEP arrangements do not allow employee elective salary deferrals. Employers can also decide not to contribute in a particular year, a feature that helps businesses with uneven cash flow.
Once an employer contributes, however, the contribution generally must go to every participant who performed personal services during that year. That includes eligible employees who died or left the company before the contribution was made.
The money is immediately owned by employees. Contributions are always 100% vested, so a business cannot use delayed vesting to retain workers.
An employer generally may establish the plan by the due date, including extensions, of its business income tax return for the year. The setup requires a written agreement, required employee information and an IRA account for each eligible employee.
Many employers use Form 5305-SEP. The model form is kept with the plan records and is not filed with the IRS. It cannot be used in some situations, including when the employer maintains another qualified plan other than another SEP, uses leased employees, has a non-calendar plan year or wants an allocation formula that accounts for Social Security contributions.
The 2026 numbers set boundaries, not the final deposit
| 2026 SEP rule | Amount or requirement |
|---|---|
| Maximum contribution for an employee | Lesser of 25% of compensation or $72,000 |
| Maximum compensation considered | $360,000 |
| Minimum compensation for default eligibility | $800 |
| Minimum default service test | Worked in at least three of the last five years |
| Default age test | Age 21 |
The $800 threshold rose from $750 in 2025 and 2024. Employers may use less restrictive eligibility rules, but they cannot impose requirements more restrictive than the default standards.
The service test creates problems for businesses that focus only on current payroll. An employee does not need to work full-time in each qualifying year. Limited service can count when the plan uses the three-of-five-year standard.
The IRS gives the example of a worker who spent summer breaks with an employer during three prior years and later became full-time. That worker qualified after meeting the age, service and compensation requirements.
Part-time workers, seasonal employees, interns and former temporary workers can therefore enter the eligibility calculation. Restaurants, retailers, hotels, clinics, professional offices and family businesses may need to review older payroll records before contributing only for owners or senior staff.
Foreign workers are not automatically outside the plan
An employer may exclude a nonresident alien who receives no U.S. wages, salaries or other personal-services compensation from that employer. The exception is narrow.
An H-1B employee, L-1 manager, F-1 OPT worker, green card holder or other noncitizen receiving U.S. compensation should be reviewed under the ordinary eligibility rules. Citizenship or visa status alone does not determine coverage.
Foreign-owned U.S. companies also need to examine U.S. compensation, service history, employee status and the plan’s written terms. Home-country human-resources practices do not decide whether a worker qualifies.
When a business makes a contribution, the allocation formula generally must be uniform for eligible employees. The employer cannot contribute for the owner while selectively excluding another eligible participant.
Contributions must be made in money. Inventory, cryptocurrency held by the business, real estate, equipment, receivables and other property cannot substitute for a cash contribution to the financial institution holding the SEP-IRA.
The owner formula reduces the apparent 25% rate
The self-employed owner’s calculation starts with net earnings from self-employment. The IRS says the amount must be reduced by one-half of self-employment tax and by the contribution to the owner’s own SEP-IRA.
That creates a circular calculation. Earned income affects the contribution, while the contribution also affects earned income.
The formula restructures the calculation as net earnings from self-employment, minus the deduction for one-half of self-employment tax, multiplied by the plan rate divided by one plus the plan rate.
At a 25% plan rate, the effective percentage for the owner is often 20% after the required adjustment. It is not 25% of unadjusted profit.
The contribution rate may be 25% under the plan, while the owner’s effective percentage is often 20% after the self-employment adjustment.
A sole proprietor therefore needs a calculation based on adjusted self-employment earnings, not gross receipts or a flat percentage of Schedule C profit. The owner’s contribution also cannot be treated in exactly the same way as a contribution made for a common-law employee.
Entity type changes the analysis
Partnership and S corporation owners require separate treatment. A partner’s distributive share may be relevant to self-employment income, depending on the income’s character and the partner’s role. Guaranteed payments for services can be treated differently from passive-type allocations.
S corporation income passed through to shareholders is not treated the same way as self-employment income for this purpose. An owner-employee generally needs W-2 compensation to support employer retirement contributions.
The choice among sole proprietorship, partnership, LLC and S corporation treatment can therefore affect both the available contribution and how the deduction is handled. Cross-border owners need to examine the entity’s tax treatment rather than assume that the same formula applies to every business structure.
Employers can generally deduct contributions for common-law employees, subject to applicable limits, when the contributions are made by the due date, including extensions, of the employer’s federal income tax return. Employees generally exclude those contributions from gross income.
A sole proprietor or partner generally handles the owner’s contribution through the individual return framework instead of treating it simply as an employee-benefit expense.
Reporting differs between traditional and Roth features
Traditional SEP contributions are not subject to federal income-tax withholding, Social Security, Medicare or FUTA taxes. Employers generally do not include them in employees’ Forms W-2, but they must check the “Retirement Plan” box in Box 13.
That box can affect whether an employee may deduct separate traditional IRA contributions, depending on income. Employees should review the form even though the contribution does not appear as taxable wages.
SECURE 2.0 permits an employer maintaining a SEP arrangement to offer participating employees the option of having contributions made to a Roth IRA under the arrangement. Roth treatment creates different reporting duties.
Salary reduction contributions to a Roth SEP are included in W-2 Boxes 1, 3 and 5 and reported in Box 12 using Code F. Employer matching and nonelective Roth SEP contributions are reported on Form 1099-R for the year the contribution reaches the employee’s Roth IRA.
Ordinary SEP plans do not permit employee elective deferrals, but an employer adopting Roth features should coordinate payroll, the retirement provider and tax-return reporting before making contributions.
No loans, and fewer filings do not mean fewer records
Participant loans are not permitted from SEP plans. SEP assets also cannot serve as collateral.
Withdrawals may be available, but they are generally taxable when received and may face the 10% additional tax if taken before age 59½. A 401(k) may permit loans if its plan document allows them; a SEP does not.
An employer generally has no Form 5500 filing requirement for a SEP. The reduced filing burden does not eliminate recordkeeping.
The business should retain its written plan, employee notices, eligibility records, compensation calculations, contribution evidence and annual statements. Employees must receive information about adoption, allocation requirements and the basis for employer contributions, along with amendments and an annual contribution statement.
The compliance review belongs before the contribution
The recurring failures are practical: excluding an eligible employee, missing a part-time worker, applying different percentages, overlooking a worker who died or terminated employment, or using the wrong owner-income base.
Employers also need to avoid excluding foreign workers solely because they hold visas, treating contributions as salary deferrals, missing the Box 13 entry, assuming loans are available or adding Roth features without coordinating Form W-2 and Form 1099-R reporting.
The IRS warns that a plan failing legal requirements can lose its tax benefits, although correction programs may address many errors. A pre-contribution review should cover payroll history, the eligible-worker list, compensation limits, the allocation formula and the owner’s adjusted calculation.
The deadline follows the employer’s federal income tax return, including extensions. That gives a business time to establish the arrangement, but not permission to ignore workers who qualify under the plan.
This article is for informational purposes only and does not constitute tax advice. Consult a qualified tax professional or CPA about your specific situation.
