Disadvantages of a SEP IRA

A Simplified Employee Pension (SEP IRA) is one of the most simple retirement plans to establish. Though any business can establish one, these are most common with small business owners who maintain few employees. While there are many advantages to creating a SEP IRA, there are some key disadvantages to both employers and employees.

Employer Disadvantage

The major reasons employers do not want to establish SEP IRA plans is that all employees must be included, including eligible part-time employees. The employer must leave the money in the account for employees regardless of how long an employee has been with the company.

Significance to Employer

Vesting creates a schedule in which an employee is entitled to a greater amount of their retirement funds after a longer period of working for the company, usually based on a sliding scale. Employers use retirement plans as a way to retain employees but lose this benefit while increasing new-employee administration and training costs in SEP IRA plans.

Employee Disadvantages

Unlike traditional 401(k) plans established by larger corporations, employees are unable to contribute to their own retirement account. Additionally they are unable to take loans out against the monies in a SEP IRA.

Significance to Employee

Not being able to contribute means that employees are not allowed to put pre-tax monies into a retirement account limiting what they can save for retirement. Additionally employees can't cover short-term emergency expenses with loans against retirement funds without penalties in fees or taxes.

Lack of Control

Employees who would otherwise elect a pay raise or other bonus are now forced into a savings program they may not want. This lack of control makes SEP IRAs undesirable for both parties unless everyone is in complete agreement. SEP IRAs best suit a family run business where most, if not all of the employees are family members.