Don’t Make the Same $100,000 Retirement Mistake I Just Made

If you have self-employed income in addition to your regular job, can you contribute to a SEP IRA even if you have a 401k at work? This question hit home for me a few years ago due to the income generated from this website. To get right to the point, the answer to the question is yes, as I’ll explain in a minute.

So, what's the $100,000 mistake? Based on my accountant's advice, I mistakenly contributed far less to my SEP IRA than I could have. The mistake had to do with whether 401k contributions at work limit the amount you are entitled to contribute to a SEP IRA based on unrelated self-employed income. It was a painful lesson, as you'll hear in the podcast. Here are the details:

Podcast of this Article

If an employee participates in his or her employer’s retirement plan, can he or she set up a SEP for self-employment income?

The IRS has answered this very question:

"Yes, you can set up a SEP for your self-employed business even if you participate in your employer's retirement plan at a second job."

This answer comes from an IRS FAQ about SEP plans. That’s good news for bloggers, many of whom are employees with 401k plans in addition to self-employed income.

What are the tax advantages of a SEP-IRA?

The tax advantages are similar to a 401k. You can deduct your contributions and your earnings grow tax-deferred. You will be taxed on withdrawals from a SEP-IRA.

What’s the maximum contribution to a SEP?

The maximum contribution depends in part on whether the contribution is for an employee or, in the case of those self-employed, the owner. For 2017, the maximum contribution on behalf of an employee to a SEP IRA is the lesser of $54,000 or 25% of your ‘eligible compensation.’ For the self-employed, the contribution limit in 2017 is the same: the lesser of $54,000 or 25% of earnings, according to the IRS.

Now, to the question my accountant got wrong. Let's assume that in addition to self-employed income, you also have a regular job where you contribute to a 401k. Do your 401k contributions reduce the amount you can contribute to a SEP IRA?

The answer is no, assuming that the 401k and SEP IRA are with two different companies not under common control. Why? While the employee contribution limits to a 401k are per person, the employer contribution limits (including a SEP IRA for the self-employed) are per plan.

As always, consult a tax professional (not a blog) before making any decisions.

Where to Open a SEP IRA

In 2010, I opened a SEP IRA at TD Ameritrade (Formerly Scottrade). I’ve been very happy with my decision, in large part because of the low trading costs and the option of visiting a physical Scottrade branch. You can check out a full list of the best brokers for IRA retirement accounts, too.