SEP IRA vs Traditional IRA: How They Differ at a High Income

By Kevin Luu, Co-Founder and Chief Learning Officer. Reviewed on 2026-09-30.

A traditional IRA is a personal account that anyone with earned income can fund, up to $7,500 for 2026 ($8,600 at age 50 or older). A SEP IRA is an employer plan funded only from business or self-employment income, and it can take up to 25% of pay, capped at $72,000 for 2026. For a W-2 household earning $600,000 to $1.2 million, the practical difference is sharper than the limits suggest: your traditional IRA contribution is almost certainly not deductible, and a SEP IRA balance can make your backdoor Roth partly taxable.

Most families in this income range only meet the SEP question when one parent picks up side income: expert-witness or locum work for a physician, advisory fees for a scientist, board seats, or consulting after leaving Apple, Amazon or a biotech. This page compares the two accounts rule by rule, runs the numbers for a California household with RSUs, and shows the one interaction that catches most dual-income families.

SEP IRA vs traditional IRA: the rules side by side

Sources for the table: IRS Notice 2025-67 (2026 limits), the IRS SEP plan page, IRS Publication 560, Publication 590-A and the IRS RMD FAQs.

Two corrections to what many comparison pages say. First, the $72,000 SEP figure never applies to a regular IRA, and the $7,500 IRA figure is not a SEP limit. Second, a SEP IRA does not have stricter withdrawal rules than a traditional IRA. Once money is in a SEP IRA, it follows the same IRA rules, including the same penalty exceptions.

Why the traditional IRA works differently at your income

At $600,000 or more of household income, a traditional IRA is rarely a tax deduction. If either spouse is covered by a 401(k) at work, the deduction phases out between $129,000 and $149,000 of MAGI for the covered spouse, and between $242,000 and $252,000 for a non-covered spouse married to a covered one (Notice 2025-67). You are above both ranges. Participating in a SEP also makes you an active participant in an employer plan for this test (IRC §219(g)(5)).

So for this household, the traditional IRA has one main job: it is the first step of a backdoor Roth. You contribute $7,500 after tax, then convert it to a Roth IRA, because direct Roth contributions close at $252,000 of MAGI for joint filers. Each spouse can do this separately, which is $15,000 a year of Roth money for a couple.

The SEP IRA is the opposite. It is a real deduction at your top bracket, but only for income from a business you own.

Worked example: a California physician with expert-witness income

Assumptions (illustrative): married filing jointly in California. One spouse is a physician with $520,000 of W-2 salary plus $80,000 of net expert-witness income reported on Schedule C. The other works in biotech with $380,000 of salary and $200,000 of RSUs vesting in 2026. Both max their 401(k) deferrals at work. Household income is about $1.18 million, so the top dollars sit in the 37% federal bracket, which starts at $768,700 of taxable income for 2026 (Rev. Proc. 2025-32).

1. Self-employment tax. The physician’s W-2 wages already exceed the $184,500 Social Security wage base for 2026 (Publication 15), so the side income owes only the 2.9% Medicare portion on 92.35% of net earnings (IRS Topic 554): $80,000 x 92.35% x 2.9% = $2,143. Half of that, $1,071, is deductible. The side income also owes the 0.9% Additional Medicare Tax, because the couple’s combined wages are above the $250,000 joint threshold (IRS), but that tax is not part of the deduction (IRC §164(f)).
2. SEP contribution. For a self-employed owner, the 25% plan rate works out to 20% of net earnings after that deduction (Publication 560 rate table): ($80,000 minus $1,071) x 20% = $15,786.
3. Federal tax effect. At 37%, the deduction reduces federal income tax by about $5,841 for 2026. California taxes the eventual withdrawals as ordinary income at rates up to 13.3%.
4. Traditional IRA for the same couple. Nondeductible for both spouses. Its value is the backdoor Roth, worth $7,500 per spouse of Roth money a year.

Because a SEP has no employee salary deferrals, the physician’s $24,500 401(k) deferral at the hospital does not reduce the SEP amount, as long as the consulting business is unrelated to the employer.

How a SEP IRA balance can make your backdoor Roth taxable

This is where the two accounts collide. When you convert nondeductible IRA money to a Roth, the IRS looks at the total of all your traditional, SEP and SIMPLE IRA balances on December 31 of the conversion year (Form 8606 instructions). Your after-tax basis is spread pro rata across all of it.

In the example, if the physician’s SEP IRA holds $15,786 on December 31 and the physician converts a $7,500 nondeductible contribution, the taxable share is $7,500 x $15,786 / $23,286 = $5,084. At 37%, that is about $1,881 of federal tax on a move that was meant to be tax-free, plus California tax on the same amount. The rule applies per person, so the biotech spouse’s backdoor Roth is unaffected.

Families in this position usually choose one of three routes:

• Roll the SEP IRA into the W-2 employer’s 401(k) before December 31, if the plan accepts roll-ins. Money in a 401(k) is not counted in the pro rata math.
• Use a solo 401(k) instead of a SEP for the side business. The employer contribution works out to the same 20% of net earnings, and a 401(k) balance stays out of the backdoor calculation. The trade-off is more paperwork, and your $24,500 deferral limit is shared with the W-2 plan, so if you already max it at work, the solo plan adds only the employer part.
• Skip the backdoor Roth for that spouse and keep the SEP, if the SEP deduction is worth more to the family than $7,500 of Roth room.

At higher side income the SEP deduction gets larger, and the backdoor cost grows with the SEP balance. That is why this decision belongs in one annual review rather than in two separate conversations with a CPA and a brokerage.

California and Washington: what changes

In California, top earners pay up to 13.3% state income tax (2025 schedules, FTB), and there is no lower rate for capital gains, so pre-tax retirement money and taxable investments are both taxed at ordinary rates when they come out. SDI at 1.3% for 2026 applies to W-2 wages with no cap (EDD); it is not charged on Schedule C income. We have not quantified the California value of the SEP deduction here; confirm the state treatment with your CPA before counting on it.

In Washington, there is no individual income tax for 2026 (DOR), so today a SEP deduction saves federal tax only. That changes for high earners: Washington enacted a 9.9% income tax on AGI over $1,000,000, effective January 1, 2028. A Seattle couple at $1.1 million who expects to stay in Washington may weigh Roth money differently than they would have two years ago, because pre-tax withdrawals from 2028 on could face state tax that contributions never saved.

Which account fits your situation

• W-2 income only, no side business: the SEP is not available to you. Use the traditional IRA as the backdoor Roth step, and look at the after-tax (mega backdoor) option in your 401(k) if the plan offers it.
• Side income, no backdoor Roth, no plans to start one: a SEP is simple to open and fund, and the deduction lands at your top bracket.
• Side income and an active backdoor Roth: compare the SEP against a solo 401(k), or plan a roll-in to the W-2 401(k) before year-end.
• Side business with staff: a SEP requires the same contribution percentage for eligible employees, which can change the math entirely.

Because the SEP deadline follows the business return (including extensions) and the IRA deadline does not, you can decide the SEP amount as late as the extended due date of the business return, months after the IRA deadline has passed. See our SEP IRA contribution deadline guide for each date, and our backdoor Roth guide for the conversion steps.

Common mistakes we see

• Assuming a traditional IRA contribution is deductible at your income, and not filing Form 8606 to record the after-tax basis.
• Opening a SEP for side income in the same year as a backdoor Roth without checking the December 31 balance.
• Calculating the SEP as 25% of self-employment income instead of about 20% of net earnings.
• Treating a SEP like a 401(k) for loans. IRAs, including SEP IRAs, do not allow loans.
• Letting old SEP balances from a past consulting stint sit untouched, which quietly taxes every later backdoor Roth.

What to write down for your kids

Two parents with a 401(k) each, a SEP from side work, and two Roth IRAs from backdoor contributions can end up with six or more retirement accounts. Write a one-page note that lists each account, why it exists, and who is named as beneficiary. A young child generally cannot manage an inherited IRA, so the beneficiary form usually points to a trust or a custodian, and the note should record why you chose them. Our custodial Roth IRA guide covers the other direction: starting a Roth for a child who has real earned income. Conversations fade. Documentation compounds.

Frequently asked questions

Can I have both a SEP IRA and a traditional IRA?

Yes. They are separate accounts with separate limits, so a self-employed owner can fund a SEP from business income and also make a $7,500 IRA contribution for 2026. The catch at high incomes is that the IRA contribution is usually nondeductible, and if you convert it to a Roth, your SEP balance on December 31 is counted in the pro rata calculation.

Can I contribute to a SEP IRA if I already max my 401(k) at work?

Yes, if you have income from your own business. A SEP has no employee deferrals, so your $24,500 workplace deferral for 2026 does not reduce it, provided the business is unrelated to your employer. The SEP amount is based only on the side business’s net earnings, not on your W-2 salary.

Is a SEP IRA or a solo 401(k) better for side income?

If you already max your 401(k) deferral at work, both give roughly the same employer contribution, about 20% of net earnings. The solo 401(k) keeps your backdoor Roth clean and can allow loans, but it adds setup and, once assets pass a threshold, an annual Form 5500-EZ filing. The SEP is simpler if you do not use a backdoor Roth.

Next step

Before December 31, check whether either spouse holds a traditional, SEP or SIMPLE IRA balance and plans a backdoor Roth this year. If both are true, decide whether to roll the balance into a workplace 401(k) or switch the side business to a solo 401(k). If you want a second set of eyes across your retirement accounts, equity compensation and state taxes, our retirement and employee benefits and tax management work starts with a Tax & Wealth Assessment.

This is general education, and the right move depends on your family’s full picture.

Written by

Kevin Luu

Co-Founder and Chief Learning Officer, Bright Advisers

Kevin has advised high-income W-2 tech and biotech families since 2015, and leads the education-first Age Five Family Office from Brea, California.

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