SEPP / 72(t) — Substantially Equal Periodic Payments
Model Substantially Equal Periodic Payments taken from a retirement account before age 59½ under the IRC §72(t)(2)(A)(iv) exception. Stratum does not charge the 10% early-withdrawal penalty — which is correct for SEPP clients, since SEPP distributions are penalty-exempt.
How it works
IRC §72(t) imposes a 10% early-withdrawal penalty on most IRA or qualified plan distributions taken before age 59½. The §72(t)(2)(A)(iv) exception permits penalty-free distributions if the client takes Substantially Equal Periodic Payments for at least 5 years OR until age 59½, whichever is longer. Advisors typically use SEPP for early retirees whose wealth is concentrated in tax-deferred accounts and who need bridge income before Social Security or other retirement sources begin. Stratum does not model the 10% penalty — which is the correct treatment for SEPP clients, since SEPP distributions are explicitly exempt. For non-SEPP pre-59½ distributions, advisors should separately verify that the projection does not understate the real-world tax cost.
1. Calculate the SEPP Payment Amount (Outside Stratum)
The SEPP payment amount must be calculated using one of three IRS-approved methods: Required Minimum Distribution method, fixed amortization method, or fixed annuitization method. Stratum does not calculate SEPP amounts — the advisor computes the annual payment per IRS Rev. Rul. 2002-62 and enters the dollar amount into the projection.
Example: Client age 52, $600k Traditional IRA, using fixed amortization at the applicable §72(t) interest rate and Single Life Table factor → annual payment ~$22,500. Advisor calculates this outside Stratum using the IRS-approved method.2. Model SEPP in the Base Case — IRA Distribution Income Item
For SEPP distributions to appear in the Base case (no strategies applied), enter them as an IRA Distribution income item on the Base Data tab. Set the annual amount and the start/end years to match the SEPP schedule. Stratum treats this as 100% ordinary income for every year in the range.
SEPP Period End Year = max(Start Year + 5, Year client reaches age 59½)
Example: Client age 52 in 2026 starting a SEPP: payment $22,500/year, period runs 2026 through 2033 (year client turns 59½). Enter IRA Distribution income item: amount $22,500, years 2026–2033.3. Model SEPP in the Strategic Case — Structured Withdrawals Manual Rule
For SEPP in the Strategic case, use the Structured Withdrawals strategy with a manual withdrawal rule. Do not use auto-mode — auto-mode only runs from the first retirement year of either spouse forward, so it will not fire during pre-retirement SEPP years. Tax treatment = Tax-Deferred, owner = client or co-client, amount = SEPP payment, year range = SEPP period.
Example: Same client: enable Structured Withdrawals, add manual rule — tax treatment Tax-Deferred, owner Client, amount $22,500, years 2026–2033. In the Strategic case the SEPP draws appear in the Withdrawals transaction log and raise ordinary income accordingly.4. Keep Base and Strategic SEPP Configurations Consistent
To produce an apples-to-apples Base vs. Strategic comparison, both cases should include the SEPP income. Any Strategic-case improvement then comes from other strategies (Roth conversions in low-bracket SEPP years, Strategic Contributions post-59½, etc.), not from omitting the SEPP itself.
Example: Base case: IRA Distribution $22,500/year 2026–2033. Strategic case: same SEPP via SW manual rule + Roth conversions sized to fill the 12% bracket each SEPP year. Lifetime tax delta attributes cleanly to the conversions.
Real-world context
Why Stratum Does Not Apply the 10% Penalty
IRC §72(t)(2)(A)(iv) unconditionally exempts SEPP distributions from the 10% early-withdrawal penalty regardless of the client's age. Stratum's decision not to model the penalty is a deliberate choice that produces the correct result for SEPP clients. For non-SEPP pre-59½ distributions (e.g., a one-off hardship withdrawal), Stratum's projection will understate the real-world tax cost by the 10% penalty — advisors modeling such cases should adjust manually or add a note for the client.
IRS reference: IRC §72(t)(2)(A)(iv); IRS Publication 590-B
Three IRS-Approved SEPP Calculation Methods
Per IRS Rev. Rul. 2002-62, SEPP payments must use one of: (1) Required Minimum Distribution method — divides prior year-end balance by the Single Life Table factor at the client's age; produces the smallest payment. (2) Fixed amortization method — amortizes the balance over life expectancy at the applicable interest rate; produces a level annual payment. (3) Fixed annuitization method — divides balance by an annuity factor at the applicable interest rate; also produces a level payment. Most advisors use fixed amortization because it produces the largest level payment. The applicable interest rate is the lesser of 5% or 120% of the federal mid-term rate at SEPP start.
IRS reference: IRS Rev. Rul. 2002-62; IRS Notice 2022-6 (5% interest rate floor)
Modification Rules and Retroactive Penalties
Once SEPP begins, the payment amount and method cannot be changed before the 5-year / 59½ threshold — with one exception: a one-time switch from fixed amortization or annuitization to the RMD method is permitted. Any other modification, stopping payments, or taking additional distributions from the SEPP account triggers the 10% penalty retroactively on every prior SEPP distribution, plus interest. Advisors should plan SEPP amounts conservatively — the flexibility to reduce payments exists (via the one-time switch) but the flexibility to increase does not.
IRS reference: IRS Notice 2004-15; IRC §72(t)(4)
Common SEPP Planning Contexts
SEPP is most commonly used for: (1) early retirees age 55–59 who need IRA income to bridge to Social Security or pension start; (2) clients separated from service before 55 whose 401(k) penalty exception does not apply; (3) high-net-worth clients taking small SEPPs to fund Roth conversions in early bracket space. Less common but valid: (4) disabled clients (though §72(t)(2)(A)(iii) provides a simpler exception without the 5-year lock-in); (5) substantial medical expense scenarios (§72(t)(2)(B) applies without SEPP requirements).
SEPP and Strategy Interactions
SEPP income feeds ordinary income and AGI. This affects every downstream calculation: Social Security provisional income (if SS has started), IRMAA MAGI (for clients approaching 63+ when IRMAA look-back begins), Roth Conversion auto-mode bracket headroom (auto-mode sees SEPP income as pre-existing, so conversion sizing shrinks accordingly), and capital gains bracket stacking. For a SEPP client in the 12% bracket, Roth auto-mode will typically size smaller conversions than the same client without SEPP.
What drives the result
Amount appears as 100% ordinary income for every year in the configured range. Raises AGI, feeds SS taxation formula, and counts toward IRMAA MAGI 2 years later.
$22,500/year SEPP entered as IRA Distribution for years 2026–2033 produces $22,500 ordinary income each year in the Base case
Annual dollar amount drawn from the specified tax-deferred account type in the Strategic case. Produces 100% ordinary income and reduces the account balance by the withdrawal amount + any associated withholding.
Manual rule: $22,500 tax-deferred/client, 2026–2033. In 2026, tax-deferred balance is reduced by $22,500; $22,500 appears as ordinary income.
Determines the end of the SEPP period (longer of 5 years or age 59½). Also determines the Single Life Table factor used in the RMD method of SEPP calculation.
Age 52 start → period runs 7.5 years to age 59½ (the longer constraint). Age 57 start → period runs 5 years to age 62 (the 5-year constraint).
Assumptions
- Payment amount must be calculated by the advisor using an IRS-approved method (RMD method, fixed amortization, or fixed annuitization) — Stratum does not enforce or calculate SEPP amounts
- SEPP period runs for at least 5 years OR until age 59½, whichever is longer (client's starting age determines which governs)
- Distributions are 100% ordinary income — no basis adjustment (assumes Traditional IRA / 401k; Roth SEPP is uncommon and not modeled differently)
- The 10% early-withdrawal penalty is NOT applied, which is correct for SEPP under IRC §72(t)(2)(A)(iv)
- Once started, the payment schedule cannot be modified without triggering retroactive penalties on all prior-year distributions — Stratum does not enforce this; advisor responsibility
Limitations
- Stratum does not calculate the SEPP payment amount — advisor must compute outside the system per IRS Rev. Rul. 2002-62
- Stratum does not model the retroactive penalty that applies if SEPP payments are modified before the 5-year / 59½ threshold — advisor must caution clients that any modification triggers 10% penalty on every prior distribution
- The system does not distinguish SEPP income from other IRA distributions in reports — both appear as ordinary income with no SEPP label
- ACA health insurance subsidy modeling is not included; advisors with pre-Medicare SEPP clients should check ACA MAGI thresholds separately
Related
This page explains how Stratum models this calculation. It is educational material for financial professionals, not tax or legal advice, and tax law changes. Verify current figures against primary IRS sources before relying on them with a client.