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March 5, 2009

72(t) Payments / Substantially Equal Periodic Payment (SEPP)

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Definition

A series of distributions from a qualified plan, 403(b) arrangement, or IRA, that are made in equal installment payments, over the life expectancy of the retirement account owner/plan participant, or the joint life expectancies of the account owner and his/her beneficiary. In general, a distribution is a SEPP if  it is made  as follows:

  1. Not less frequently than annually
  2. Made for the life (or life expectancy) of the participant or the joint lives (or joint life expectancies) of the participant and his/her designated beneficiary
  3. Continued for five years or until the participant reaches age 59 ½, whichever is longer
  4. Calculated using an IRS approved method

The preapproved IRS calculation methods are as follows:

  1. The RMD method, where the annual payment for each year is determined by dividing the account balance for that year by the number from the chosen life expectancy table for that year. Under this method, the account balance, the number from the chosen life expectancy table and the resulting annual payments are re-determined for each year. If this method is chosen, there will not be deemed to be a modification in the series of substantially equal periodic payments, even if the amount of payments changes from year to year, provided there is not a change to another method of determining the payments.
  2. The fixed amortization method, where the annual payment for each year is determined by amortizing (in level amounts) the account balance over a specified number of years, using the applicable interest rate. The number of years is determined by using the chosen life expectancy table . Under this method, the account balance, the number from the chosen life expectancy table and the resulting annual payment are determined once for the first distribution year and the annual payment is the same amount in each succeeding year.
  3. The fixed annuitization method. The annual payment for each year is determined by dividing the account balance by an annuity factor that is the present value of an annuity of $1 per year beginning at the taxpayer’s age and continuing for the life of the taxpayer (or the joint lives of the individual and beneficiary). The annuity factor is derived using the mortality table in Appendix B and using the chosen interest rate. Under this method, the account balance, the annuity factor, the chosen interest rate and the resulting annual payment are determined once for the first distribution year and the annual payment is the same amount in each succeeding year.

SEPP amounts are exempted from the early distribution penalty, providing the SEPP is not modified.

Referring Cite

IRC§ 72(t)(2)(A)(iv),   Revenue Ruling 2002-62,

Additional Helpful Information

  • Although the RMD method will result in the SEPP amount being different each year, it is still considered substantially equal if the rules are followed.
  • A participant who begins distributions in a year using either the fixed amortization method or the fixed annuitization method may in any subsequent year switch to the RMD method to determine the payment for the year of the switch and all subsequent years. The change in method will not be treated as a modification within the meaning of IRC § 72(t)(4). Once a change is made under this paragraph, the RMD method must be followed in all subsequent years.
  • Interest rates for calculating SEPPs available on the IRS’ website.

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Written By

Denise Appleby

Denise is CEO of Appleby Retirement Consulting Inc., a firm that provides IRA resources for financial/ tax/legal professionals. She has over 20 years of experience in the retirement plans field, which includes training and technical consultation.

Denise writes and publishes educational /marketing tools for advisors; available at http://irapublications.com. Denise co-authored several books on IRAs

Denise is a graduate of The John Marshall Law School, where she obtained a Masters of Jurisprudence in Employee Benefits, and has earned 5 professional retirement designations.
She has appeared on numerous media programs, sharing her insights on retirement tax laws.

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