(IRS Publication 560 Explained)

If you’ve ever seen “SEP” on your W-2 and wondered what it meant, you’re not alone. A Simplified Employee Pension (SEP) is a powerful retirement savings plan designed for small business owners, self-employed individuals, and their employees. It’s governed by IRS Publication 560, which lays out the rules for SEP, SIMPLE, and qualified plans.

Understanding the Basics

A SEP is essentially an employer-sponsored retirement plan that functions much like a traditional IRA—but with higher contribution limits. The employer sets up a SEP-IRA account for each eligible employee (including themselves if self-employed). Contributions are made directly to those individual accounts.

Contribution Limits

For 2025, employers can contribute up to 25% of an employee’s compensation or $69,000, whichever is less. The employee cannot make contributions themselves (unlike a 401(k)), but the funds grow tax-deferred just the same.

Tax Benefits

SEP contributions are tax-deductible for the employer, and employees don’t pay tax on contributions until they withdraw the money—usually during retirement. This makes SEPs especially attractive to small businesses seeking both tax deductions and simple administration.

Eligibility

Generally, an employee must:

• Be at least 21 years old,
• Have worked for the employer in at least three of the last five years, and
• Earn at least $750 in compensation during the year (2025 figure).

Employers can choose to be more generous, but not more restrictive.

Setup and Administration

Setting up a SEP is straightforward:

1. Complete IRS Form 5305-SEP (or a similar plan document).
2. Open a SEP-IRA for each eligible employee.
3. Make contributions by your tax filing deadline (including extensions).

Unlike a 401(k), there’s no annual filing requirement for the employer. That’s one reason SEPs are so popular among independent contractors and small businesses—they’re simple and cost-effective.

Seeing “SEP” on Your W-2

If you notice “SEP” on your W-2, it indicates your employer made contributions to your SEP-IRA during the tax year. These amounts don’t appear in your taxable wages—they’re reported for informational purposes only.

Key Takeaways

• SEP = Simplified Employee Pension (Publication 560)
• Tax-deferred growth and employer deductions
• High contribution limits compared to IRAs
• Ideal for small businesses and self-employed individuals

If you’re self-employed or run a small business, a SEP can be an excellent way to lower your taxable income while saving for retirement. Always consult a tax professional to ensure your plan meets IRS requirements and optimizes your deduction opportunities.

At Dino Tax Co, we help clients navigate tax matters ranging from unfiled returns to IRS letters and levies and everything in between with clarity and confidence. If you’d like guidance on your situation, schedule a consultation today. Call or text (713) 397-4678 or email davie@dinotaxco.com. We’re here to help you take the next step.