Plan Administration

“Top-heavy” plans are those which disproportionately benefit key personnel over rank-and-file employees. If key employees are entitled to more than 60% of the plan’s total value, the plan is “top-heavy.” Key employees are:

• Officers earning more than $230,000 (2026, adjusted annually for inflation)
• 5%+ owners, or
• 1%+ owners earning more than $150,000 (not inflation-adjusted)

In applying the 60% rule to a SEP, employers may measure either (a) the total values in the employee SEP-IRAs as of the determination date (the last day of the previous year), or (b) the total employer contributions made for SEP participants.

Qualified retirement plans that are top-heavy are subject to more stringent requirements to maintain tax status. For top-heavy SEPs, the employer must make a minimum contribution of 3% of compensation for each participant who is not a key employee. The compensation cap of $360,000 (2026) also applies when calculating contributions for all participants.

Employers who establish non-model SEPs may take Social Security taxes into account when calculating SEP contributions — a process known as “integration.” Integration allows employers to offset SEP contributions by the portion of Social Security (OASDI) taxes they pay on behalf of employees.

Social Security taxes are only collected up to the maximum “wage base” — compensation above that level is not subject to OASDI taxes. Integration effectively reduces employer contributions (within limits) on compensation up to the wage base, with a higher rate applied to compensation above it.

The maximum permitted disparity (“offset”) for a plan using the Social Security wage base as the integration level is the lesser of 5.7% or the base contribution percentage. The written SEP plan formula must specifically state the integration level.

The employee’s right to employer contributions in a SEP is always 100% immediately vested. The employee has the full right to withdraw contributions at all times. An employer may not prohibit withdrawals from a SEP, nor require that its contributions be kept in the account.

This is significantly different from other types of qualified plans, which generally allow more gradual vesting schedules. It also means that SEP benefits are portable — employees may take their benefits in the form of an IRA when they terminate employment.

Although the employee retains an absolute right to employer SEP contributions at all times, as with an ordinary IRA, early withdrawals are subject to the 10% penalty tax and amounts withdrawn are generally subject to tax unless rolled over. (See IRA Distributions →)

Employers who adopt a Model SEP (Form 5305-SEP) must furnish each participant with:

• A copy of the completed Form 5305-SEP contribution agreement
• The questions and answers printed on Form 5305-SEP
• An annual statement showing any contribution made to the participant’s IRA
• A copy of any plan amendments and written explanation of their effects, within 30 days of the effective date

These disclosures satisfy both IRS and Department of Labor requirements — far more economical than having conventional summary plan descriptions prepared by outside professionals.

Non-model SEPs are technically subject to the same complex reporting rules that apply to qualified plans. However, the IRS and Department of Labor allow simplified alternatives. The Department of Labor requires employers to provide eligible employees with:

• The requirements for employee participation in the SEP
• The formula under which employer contributions will be allocated among participants’ IRAs
• The name or title of the individual designated to provide additional information
• If the employer selects or substantially influences employees’ IRA choices — the terms of those IRAs

The first three requirements may be met by furnishing the non-model SEP agreement to participants. Non-model SEPs having restrictions on fund withdrawals, where the employer selects or influences IRA choices, are subject to full ERISA reporting requirements unless unrestricted investment options are available and the employer does not influence investment choices.

Administrators of non-model SEPs must also provide general information covering: what a SEP is and how it operates; nondiscrimination rules; contribution limits and consequences of excess contributions; tax treatment; withdrawal rules and penalties; and rollover/transfer rights.

Contributions to a SEP are not considered wages for income tax withholding purposes if it is reasonable to believe the contributions will be excludable from the employee’s income.

Amounts paid by an employer to an employee’s regular SEP-IRA are not subject to FICA or FUTA taxes (Social Security, Medicare, and unemployment taxes). Employers must note employees’ active participation in the SEP by checking the “pension plan” box on Form W-2 — which helps determine the deductibility of the employee’s contributions to any other IRAs.

If the employee participates in a SARSEP, the employer must pay FICA and FUTA taxes on the amount being contributed by the employee.

Custodians (such as banks or insurance companies) who hold IRA assets must notify the IRS annually of contributions made into the account. If withdrawals were taken, the custodian must send the IRA holder a Form 1099-R, which is also filed with the IRS.