SEP IRA

This material is intended as general information only and is not intended as legal or tax advice. Some of this information may be quite complex and we strongly suggest you consult with your advisor or tax professional based on your individual situation.

What types of distributions can be taken from a SEP IRA?

There are several different kind’s distributions that can be taken from a SEP IRA. We discuss each type below.

• Normal
• Premature (without an exception)
• Premature (with an exception)
• Required Minimum Distribution (RMD)
• 60-day rollover
• Distribution due to death

What is a normal distribution from a SEP IRA?

A normal distribution occurs after the owner attains age 59½. A normal distribution is generally subject to taxation in the year withdrawn but the 10% penalty tax does not apply.

What is a premature distribution (without an exception)?

A premature distribution (without an exception) occurs upon the owner withdrawing funds before age 59½ and no exceptions apply. A premature distribution is both taxable and subject to a 10% early withdrawal penalty tax.

What is a premature distribution (with an exception)?

A premature distribution (with an exception) occurs upon the owner withdrawing funds before age 59½ and satisfying an exception. A premature distribution is subject to taxation but the 10% early withdrawal penalty tax does not apply.

Common exceptions to the 10% penalty tax on early withdrawals are:

• Substantially Equal Periodic Payments (“72(t)”) 
• Disability
• Death 
• Qualified higher education expenses 
• Pay for health insurance premiums after receiving unemployment benefits for more than 12 weeks
• Unreimbursed medical expenses (greater than 10% of adjusted gross income)
• First-time home purchase (lifetime limit of $10,000)
• IRS Levy
• Qualified birth or adoption

What is a required minimum distribution from a SEP IRA?

The SECURE Act of 2019 changed the age of a retirees required beginning date from age 70½ to 72. The change only applies to individuals who turned 70½ after December 31, 2019.

A SEPIRA account owner is required to take a minimum distribution the year he or she turns age 72. The minimum distribution rules permit the initial or first minimum distribution to be deferred until April 1^st of the following year. Delaying an initial RMD requires the owner to take two RMDs the following year.

If the full RMD is not taken each year, a 50% penalty tax is assessed on the amount not taken. See our calculator to determine your annual RMD amount.

An individualage 72 or older is eligible to participate assuming SEP IRA eligibility requirements have been satisfied. However, the investor must also take required minimum distributions.

What is the 60-day withdrawal and rollover rule?

Once in a 12-month period (not calendar year), an IRA owner may withdraw any amount, for any reason, from any of their IRAs, and repay the fundswithin 60 days without being subject to taxation or an early withdrawal penalty. If not repaid within the allotted 60-day window, the account owner will be subject to potential taxation and penalties.

The one IRA rollover per year applies on a per-taxpayer basis Therefore, an investor can elect a single 60-day withdrawal and rollover in a 12-month period regardless of the number or type of IRAs owned.

What death benefits are available from a SEP IRA?

When a SEP IRA owner dies, an inherited IRA is created. Inherited IRA treatment differs depending on who inherits the account. SEP IRAs inherited by a surviving spouse differ from a non-spouse beneficiary.

Spousal beneficiary:

Spousal beneficiary has the following options available upon inheriting a SEP IRA:

• Treat the IRA as his or her own IRA.
• Roll over the IRA into his or her own IRA.
• Transfer the IRA to an employer sponsored retirement plan where he or she is a participant.
• Remain a beneficiary.

Non-Spouse Beneficiary: 

The Setting Every Community for Retirement Enhancement (SECURE) Act passed into law in December 2019 introduced significant changes to long-standing rules that apply to retirement accounts inherited by a non-spouse beneficiary. The new rules apply to  beneficiaries that inherit an IRA on or after January 1 2020.  

One of the most significant changes was the elimination of the ‘stretch’ provision for most non-spouse designated beneficiaries of inherited retirement accounts and the introduction of a “10-Year Rule” thus requiring certain beneficiaries to liquidate the entire balance of their inherited retirement account within ten years after the account owner’s death.

Can I convert a SEP IRA to a Roth IRA?

Investors are eligible to convert all or a portion of their assets to a Roth IRA. Distributing pretax IRA assets to a Roth IRA via a conversion is a taxable event – subject to taxation in the year the conversion takes place. 

Risks Involving the Stretch IRA Strategy: 
Withdrawals by the account holder or beneficiaries in excess of the required minimum distribution (RMD) will exhaust the account at a faster pace, reducing or eliminating the effectiveness of the stretch strategy. Distributions greater than the RMD could subject the payment to higher federal and, possibly, state income taxes. When investing assets, which will be used to stretch IRA payments, the investor must be cognizant of any front-end or back-end sales charges that can reduce the assets available. During an extended period of declining investment returns, investors will experience income fluctuations that may cause additional withdrawals to be made that will exhaust the account at a more rapid rate. There can be no guarantee that a stretch IRA strategy will be advantageous to your specific situation, and many of its benefits are based on current tax laws, which are subject to change. If these laws change in the future, an investor's ability to maintain estimated distributions may be affected. Lengthy distribution periods, much like those involved in a stretch IRA, expose an investor to significant market risk.