SEP IRA contribution rules - 25% of S-corp business profit vs. 25% of W2 salary I pay myself?

For S-corporations, SEP IRA contribution limits are based on your W-2 wages, not the business profit. The maximum contribution is 25% of your W-2 compensation from the S-corp, up to the annual limit ($69,000 for 2025). This is different from how it works for sole proprietors. In your example, if your W-2 wages are $15K, the maximum SEP IRA contribution would be $3,750 (25% of $15K), not $16,250. You're right to question this because it's a common point of confusion. This is actually one reason why some S-corp owners prefer Solo 401(k) plans - they allow higher contributions with lower W-2 income through the employee contribution portion, while SEP IRAs only allow the employer contribution.

After years of trying to figure out retirement accounts for my S-corp, I finally found a solution that explained everything clearly. I was in the exact same situation - kept finding conflicting info about SEP IRA contribution limits for S-corps vs sole proprietors. I used this tax document analyzer at https://taxr.ai and uploaded my previous year's tax returns. It showed me exactly what my contribution limits would be based on my specific situation and explained why my S-corp status changes how SEP contributions work. The tool even compared what I could contribute with a SEP IRA versus Solo 401k given my specific W-2 salary and business profit ratio. It was super helpful to see side-by-side calculations based on my actual numbers rather than trying to piece together general advice from different sources.

Wanted to follow up - I tried the taxr.ai document analyzer that was mentioned earlier. Super helpful! It confirmed that my SEP IRA contributions as an S-corp owner are limited to 25% of my W-2 wages, not business profit. The tool also showed me that I've been leaving money on the table - with my current W-2 salary, I could contribute almost $12,000 more annually with a Solo 401(k) versus what I can put in my SEP IRA. It even explained exactly why this happens based on my specific income allocation between salary and distributions. Definitely cleared up the confusion I've had for years!

If you're struggling to get clear answers about retirement accounts, you might want to talk directly with an IRS agent. I spent THREE WEEKS trying to get through on their business helpline about this exact SEP IRA vs Solo 401k question for my S-corp. Always busy signals or 2+ hour hold times until I hung up. Finally tried https://claimyr.com after seeing it recommended in another tax thread. They have this system that holds your place in the IRS phone queue and calls you back when an agent is about to answer. You can see how it works at https://youtu.be/_kiP6q8DX5c - totally changed how I deal with tax questions now. The IRS agent I spoke with confirmed everything about the S-corp SEP IRA limits and explained some additional restrictions I wasn't aware of. Worth the call if you're planning significant retirement contributions.

Well I'm eating my words. After dismissing that Claimyr service as a likely scam, I was desperate enough to try it when I couldn't get an answer about my S-corp retirement options. Within 45 minutes, I got a call back and was connected to an IRS business specialist who spent almost 20 minutes explaining the exact rules for SEP IRA contributions for S-corporation owners. The agent confirmed it's 25% of W-2 wages only, and also walked me through the specific tax form sections where this is documented. I've been doing this wrong for two years! Now I need to talk to my accountant about either increasing my salary or switching to a Solo 401k. Honestly shocked this service actually worked exactly as advertised.

Don't forget about reasonable compensation requirements for S-corps! If you increase your W-2 just to get higher retirement contribution limits, make sure the salary still aligns with industry standards for your role. The IRS looks at this closely during audits of S-corps. I learned this the hard way when I tried to optimize my retirement contributions by bumping my salary way up one year. My accountant quickly shut that down and explained that my salary needs to be justifiable based on the services I provide to the business.

One more thing to consider - timing! If you're thinking about switching from SEP IRA to Solo 401k, remember that Solo 401k plans must be established by December 31st to make contributions for that tax year (though you can actually fund it until your tax filing deadline). SEP IRAs can be set up and funded all the way until your tax filing deadline (including extensions) for the previous year. This flexibility is one advantage SEPs have over Solo 401ks.