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The Simplified Employee Pension Plan (“SEP”) IRA and the 401(k) Profit Sharing Plan (401(k) PS) are two of the most common retirement plans for successful small businesses and self-employed individuals, since they offer high contribution limits and flexible annual contributions. But which is right for you—the SEP or 401(k) PS? That depends on how much you want to shelter on a tax-deductible basis for retirement each year.
Simply put: the 401(k) PS allows greater retirement contributions, but it usually involves greater administrative responsibilities and higher fees than a SEP. The SEP is easier to set up and more flexible.
The SEP is a great choice for self-employed people and small businesses who want to contribute up to 25% of their W-2 earnings or 20% of net income up to the contribution limit.
This type of plan also has the optional flexibility to allow you to convert to a regular Roth immediately or anytime in the future. Here are some additional features of a SEP plan:
The term “Profit Sharing” is actually a misnomer. It is not based on profit but on compensation (salary). In fact, you can have a net loss on the corporation and still make profit sharing contributions.
Owner pays themself $125,000 salary
*If you are over 50, you can contribute an additional $6,000 for a total of $55,750