As a sole proprietor, you can deduct contributions made to your Simplified Employee Pension (SEP) IRA on your personal tax return. For the 2024 tax year, the maximum contribution limit is the lesser of:
• 25% of your net earnings from self-employment, after accounting for the deduction for self-employment tax and the SEP contribution itself.
• $69,000, which is the absolute cap for contributions in 2024.
Calculating Your Deductible Contribution:
To determine the exact amount you can contribute and deduct:
1. Calculate Net Earnings from Self-Employment:
• Start with your net profit from Schedule C.
• Subtract the deductible portion of your self-employment tax (which is 50% of the total self-employment tax).
2. Determine the Adjusted Contribution Rate:
• Since contributions are based on net earnings after the contribution itself, you need to adjust the contribution rate.
• For a desired contribution rate of 25%, the adjusted rate is calculated as:
3. Calculate the Maximum Deductible Contribution:
• Multiply your net earnings (from step 1) by the adjusted rate (from step 2).
• Ensure this amount does not exceed the $69,000 limit for 2024.
Example Calculation:
Suppose your net profit from self-employment is $100,000.
1. Net Earnings:
• Self-employment tax: $100,000 × 15.3% = $15,300
• Deductible portion: $15,300 × 50% = $7,650
• Net earnings: $100,000 – $7,650 = $92,350
2. Adjusted Contribution Rate:
• Desired rate: 25%
• Adjusted rate: 25% / 1.25 = 20%
3. Maximum Deductible Contribution:
• $92,350 × 20% = $18,470
Therefore, you can contribute and deduct $18,470 to your SEP IRA for the 2024 tax year.
Important Considerations:
• Contribution Deadline: You can make contributions up until the due date of your tax return, including extensions.
• Consistency Across Employees: If you have employees, you must contribute the same percentage of compensation for all eligible employees as you do for yourself.
• Consult a Tax Professional: Given the complexities involved, it’s advisable to consult with a tax professional to ensure accurate calculations and compliance with IRS regulations.
By adhering to these guidelines, you can effectively reduce your taxable income through SEP IRA contributions, thereby enhancing your retirement savings.