How You Can Use The SEP-IRA To Pay Less Tax On Your Side Hustle

If you’ve been making (or are planning to make) some of that sweet, sweet side hustle money, then you probably want to know how you can avoid losing a chunk of it to taxes. So if you’re tutoring, or using Etsy, or freelancing, or starting any other kind of side hustle, pay attention!

Because I’m going to share how you can use the SEP-IRA (or, Simplified Employee Pension Individual Retirement Arrangement) to grow your side hustle money and protect it from taxes, so you can work toward financial independence more easily. At OurRichJourney we talk a lot about tax-advantaged accounts and work-sponsored accounts, but what about the money you make outside of work? Well, that’s where the SEP-IRA comes in.

Today I’m going to define the SEP-IRA, its benefits, and the easiest way to open your own account.

What Is The SEP-IRA?

So, you probably already know about the Roth IRA and Traditional IRA. Well, the SEP-IRA is another individual retirement account, but with some notable differences.

This tax-advantaged retirement account is created by an employer, which means you can also open your own if you’re self-employed or have a side hustle. Once open, you are able to fund it with pre-tax dollars from your side hustle. This money is left to grow in your account until you withdraw it, which is when it is finally taxed.

But the SEP-IRA also has some limitations. For one, there is a limit on how much you can contribute. Fortunately, this contribution limit is much higher than that of a Traditional IRA - sometimes as much as 10 times higher!

This is an incredible advantage because it means you can keep even more of your money from being eaten away by taxes. Let’s take a deeper look into how this works.

SEP-IRA Contributions

Now if you were to open a Traditional or Roth IRA, the maximum amount you can contribute annually in 2022 is $6000. With the SEP-IRA on the other hand, you can contribute up to 20% of your net earnings from your side hustle, or as much as $58,000 (whichever is lower). That’s an incredible contribution limit compared to other IRAs!

What’s even better is that you don’t have to choose one or another. If you are contributing to a SEP-IRA you can still contribute to a Traditional or Roth, which means you can put even more money into tax-advantaged accounts.

Now you might be wondering - how am I supposed to retire early if so much of my money is tied up in accounts I can’t access until I’m 59 or older? Well, if you’ve spent much time on my blog or our YouTube channel, you may have heard of the Roth conversion ladder, which allows you to access your Traditional and Roth IRA contributions before the usual withdrawal age, penalty-free. And the great news is that you can use the Roth conversion ladder with the SEP-IRA!

If you want to learn more about the Roth conversion ladder, check out our YouTube video that explains the process. I point this out because I don’t want you to think that by putting all of your side hustle earnings into a SEP-IRA, you won’t be able to access your contributions until you’re 59.

Tax Filing and the SEP-IRA

If you’re one of those people who like to file their taxes late, then this next feature of the SEP-IRA will be very appealing. So if you’ve missed the tax deadline, you can still open up a SEP-IRA and get the tax benefits from the year before. You can effectively reduce your taxable income by taking your side-hustle money from the previous year and adding it to a SEP-IRA.

Basically, the deadline for opening and funding a SEP-IRA is the same as the deadline to file taxes for your side hustle, including any deadline extensions. So if you have an extended deadline of October 15th to file those taxes, you have until October 15th to fund that SEP-IRA. But of course, you should do the necessary research to see how this would work for you.

How To Open a SEP-IRA

So what do you need to do to open a SEP-IRA? Well first, I would recommend going through all of the tax-advantaged account options available to you, such as the 401k, HSA, Roth IRA, Traditional IRA, etc.

Once you’ve got all these accounts in mind you can begin working out the order in which you’ll contribute to them. If you have limited funds then it’s imperative to figure out which accounts you should prioritize.

If you’ve decided that the SEP-IRA fits into your FIRE plan, it’s time to open your account. Thankfully it’s an easy, breezy, simple process! You can open a SEP-IRA at most of the low-cost popular brokerages like Vanguard, Fidelity, Schwab, and even some Robo-advisors - and you can open one as quickly as you’d create a Netflix account! It really is that easy.

With these companies, it only takes a matter of minutes. You can do it all online or fill in and submit a form with your information. You will need to give some basic personal information, but it only takes a few minutes to be verified before your account is up and running!

Next, it’s up to you to figure out what investments you want to place in these accounts. Will you choose REITs, index funds, individual stocks and bonds? If you can, you should try to figure this out before you’ve even officially opened your account. Personally, I like a consistent and diverse approach, but you’ll have to figure out what works best based on your goals and investing style.

The SEP-IRA can be a powerful and tax-efficient tool when used in the right way, making sure your side hustle income is contributing to your financial independence journey in the right way. For more tips on how to protect and grow your money, check out more of my investing articles at OurRichJourney.