SEP IRA Tax Deduction: Limits, Calculation, and Deadlines

The SEP IRA tax deduction lets an employer write off contributions of up to the lesser of 25% of an employee’s compensation or $72,000 for the 2026 tax year.¹ The deduction reduces the business’s taxable income dollar-for-dollar in the year the contribution is made, and self-employed filers can wait until their tax filing deadline, including extensions, to fund the contribution and still claim it for the prior year.²

The 2026 Contribution and Deduction Limit

For 2026, the maximum deductible contribution for each participant is the lesser of 25% of compensation or $72,000. Compensation counted toward the calculation is itself capped at $360,000.¹ If an employee earns $400,000, only the first $360,000 is used; 25% of that is $90,000, but the $72,000 dollar cap applies, so the deductible contribution tops out at $72,000. The underlying deduction authority sits in Internal Revenue Code Section 404.³

Contributions are discretionary. You don’t have to fund the plan every year, but in any year you do, you must use the same percentage of compensation for every eligible employee.² That single-rate rule is what turns the deduction question into a workforce question: your total deduction is the sum of contributions made for you and everyone who qualifies.

The Self-Employed Calculation

If you work for yourself, you cannot simply multiply your gross business income by 25%. The base for the calculation is “net adjusted self-employment earnings,” which starts with net profit and subtracts both the deductible half of self-employment tax and the SEP contribution itself. Because the contribution amount is needed to compute the deduction, and the deduction is needed to compute the contribution, the IRS refers to this as a circular calculation.⁴

The practical result is an effective maximum contribution rate of roughly 20% of net earnings before the SEP deduction and half the self-employment tax. IRS Publication 560 provides a worksheet that walks through it step by step, and running the numbers through the worksheet is safer than eyeballing 25%.⁵ Contribute too little and you leave a deduction unclaimed; contribute too much and you pick up an excise tax.

Where You Claim the Deduction

The SEP IRA deduction is an above-the-line adjustment, so it reduces adjusted gross income directly and works whether you itemize or take the standard deduction.⁶ Lowering AGI can also open up other tax benefits that phase out at higher income levels.

Where the deduction lands on your return depends on your entity:

Self-employed filers claim it on Form 1040, Schedule 1, on the line labeled “Self-employed SEP, SIMPLE, and qualified plans.”⁴
C corporations take the deduction on Form 1120.
S corporations take it on Form 1120-S.

Partnerships, sole proprietors, and corporations can all establish and fund a SEP.² LLCs follow the rules of whatever they’re taxed as: a multi-member LLC taxed as a partnership treats each member as an employee of the partnership; a single-member LLC follows sole proprietor rules; and an LLC electing corporate taxation follows the corresponding corporate rules.

The Deduction Doesn’t Reduce Self-Employment Tax

A point that catches many sole proprietors off guard: the SEP deduction does not lower self-employment tax. Because the deduction sits on Schedule 1 rather than Schedule C, it doesn’t change the net earnings figure used to calculate Social Security and Medicare taxes.⁴ Deducting it on Schedule C by mistake requires an amended return. The deduction saves income tax; it does not shrink the SE tax bill.

How Late You Can Contribute and Still Deduct

Contributions for a given tax year are deductible if made by the due date of the business’s return, including extensions.² For most sole proprietors that means April 15 of the following year, and a six-month extension pushes the contribution deadline to October 15.⁷ Extending the time to file doesn’t extend the time to pay: any tax due still needs to be estimated and paid by the original deadline to avoid interest and late-payment penalties.

The plan itself can also be established as late as the extended filing deadline.² A sole proprietor extending their 2025 return has until October 15, 2026, to open the SEP IRA, fund it, and take the deduction on the 2025 return. This retroactive setup window is one of the reasons SEP IRAs are popular with filers who want to reduce a prior-year tax bill after the fact.

Employees You Have to Cover

Because contributions must go in at the same percentage of compensation for every eligible employee, the size of your deduction depends on who else qualifies. An employee is eligible if they meet all three of these conditions:⁸

At least 21 years old.
Worked for the business in at least three of the last five years.
Earned at least $800 from the business during the year (the 2026 inflation-adjusted threshold).¹

Part-time workers, seasonal employees, and employees who leave or die during the year all count if they meet the criteria.⁷ Before you contribute a large percentage for yourself, run the eligibility test across your full workforce so you know the total deductible outlay.

Roth SEP Contributions: The Deduction Belongs to the Employer

Starting in 2023, the SECURE 2.0 Act allowed employers to let employees designate SEP contributions as Roth. If an employee elects Roth treatment, the contribution is included in that employee’s taxable income for the year, but qualified withdrawals later come out tax-free. From the employer’s side, a Roth-designated contribution is still deductible as a business expense; the tax hit falls on the employee, not on the business. The Roth election is optional for the employer to offer, the employee must affirmatively elect it, the contribution is reported on Form 1099-R, it’s not subject to FICA or FUTA, and it’s fully vested immediately.

The IRS has not yet issued comprehensive final guidance on every operational aspect of Roth SEP contributions, so working with a tax professional familiar with SECURE 2.0 is a practical step before offering or electing this option.

What Happens if You Contribute Too Much

Contributing above the legal limit triggers a 6% excise tax on the excess for every year it stays in the account.⁹ The employer also loses the deduction for the excess portion. The IRS offers two correction paths:¹⁰

Distribute the excess (plus earnings) from the employee’s SEP IRA back to the employer. The distributed amount is not taxable to the employee and is reported on Form 1099-R with a taxable amount of zero.
Leave the excess in place under the Voluntary Correction Program by entering a closing agreement and paying a sanction of at least 10% of the excess. If the excess is under $100, the additional compliance fee doesn’t apply.

Minor errors with existing compliance procedures may qualify for self-correction without an IRS filing; larger or systematic errors are safer to handle through a formal Voluntary Correction Program submission.¹⁰

1
Internal Revenue Service. IRS Notice 2025-67
2
Internal Revenue Service. Retirement Plans FAQs Regarding SEPs
3
Office of the Law Revision Counsel. 26 U.S. Code 404
4
Internal Revenue Service. Self-Employed Individuals Calculating Your Own Retirement Plan Contribution and Deduction
5
Internal Revenue Service. Publication 560 – Retirement Plans for Small Business
6
Office of the Law Revision Counsel. 26 U.S. Code 62 – Adjusted Gross Income Defined
7
U.S. Department of Labor. SEP Retirement Plans For Small Businesses
8
Office of the Law Revision Counsel. 26 U.S. Code 408 – Individual Retirement Accounts
9
Office of the Law Revision Counsel. 26 U.S. Code 4973
10
Internal Revenue Service. SEP Plan Fix-It Guide