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SEP-IRA basics

Any business can set up a SEP-IRA, regardless of size, by adopting form 5305-SEP.

From there, you set up a SEP-IRA at your financial institution. Although the process is fairly simple, it could be worthwhile to engage a financial planner who’s familiar with these plans.

To contribute, even if you’re self-employed, you must be at least 21 years of age, have worked for your employer (or yourself) for at least three of the past five years and have received at least $750 in compensation in 2023.

The SEP contribution limit for 2024 is the lesser of 25% of your compensation or $69,000. If you’re self-employed, your compensation is calculated as net earnings from self-employment, less one-half of your self-employment tax and contributions to your own EP-IRA.

As a sole proprietor, your contributions are tax-deductible and grow tax-free. However, they’re taxed in the year they’re withdrawn, and if you withdraw before you turn 59.5, you’ll have to pay a 10% penalty. But you can also roll your SEP into other IRAs or retirement plans tax-free.

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How to maximize a SEP-IRA

Here are four simple steps to becoming a SEP-IRA millionaire:

1. Start early

As with all types of investments, time is your superpower. For example, if you only have 10 years to save, you contribute monthly and you get a 7% return, then you’ll need to save $5,737 per month to become a SEP-IRA millionaire.

If you have 20 years, you’ll need to save $1,904 per month, and if you have 40 years, you’ll only need to save about $377 per month. So it pays to set up your SEP-IRA as early as possible.

2. Contribute as much as you can

Try to contribute at least 10% of your income every year. If you’re starting late, you’ll need to save more. Every little bit can help, so try to find ways to cut down your business and personal expenses — and keep in mind that your contributions are tax-deductible, which can help you save even more.

3. Invest your contributions

You’ll also need to invest your contributions. If you have 30 years to save but don’t invest, you’ll need to contribute $33,333 per year to accumulate $1 million without the aid of compound interest.

However, if you save $9,435 each year for 30 years at a 7% return compounded annually, you’d still end up with $1 million. But in this case, you will have only contributed $283,050 — and your investments will have done the rest of the heavy lifting for you.

4. Don’t withdraw early

If you tap your SEP-IRA before retirement, you’ll undo a lot of the hard work that your investment returns and compounding have been doing, and you’ll be hit with penalties.

If you withdraw before the age of 59.5, you’ll not only have to treat the withdrawal as ordinary income for your taxes, but —unless you qualify for certain exemptions — you’ll also have to pay an additional 10%.

If you’re self-employed, a SEP-IRA can help you secure a comfortable retirement, and it’s relatively simple to set up and maintain.

But to become a SEP-IRA millionaire, you’ll need to start contributing early, save as much as you can, invest the money wisely (a financial adviser can help you here) and avoid taking early withdrawals.

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Vawn Himmelsbach Freelance Contributor

Vawn Himmelsbach is a journalist who has been covering tech, business and travel for more than two decades. Her work has been published in a variety of publications, including The Globe and Mail, Toronto Star, National Post, CBC News, ITbusiness, CAA Magazine, Zoomer, BOLD Magazine and Travelweek, among others.

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