A Keogh plan is a qualified retirement plan that allows self-employed individuals up to $56,000 per year in tax-deductible contributions. Keogh plans have largely been replaced by alternatives, including SEP IRAs and Solo 401(k)s, because tax laws now allow business owners who used to use Keoghs to use other plans instead.
Spark 401K individual 401(k) plans allow solopreneurs to maximize their retirement savings at an affordable price. Clients get access to a low-expense, diverse, high quality fund line-up and an easy to use online portal. Opening a solo 401(k) with Spark 401K has a one-time setup fee of $150 and ongoing administration costs start at just $25 per month.
What a Keogh Plan Is
Keogh plans were designed as self-employed retirement plans for people who run unincorporated businesses. Establishing a Keogh plan requires self-employment income—W-2 employees must have income from independent business activities to qualify. Keogh plans have been largely replaced by other alternatives since the tax code stopped treating retirement plans differently for sole proprietorships and other companies.
In order to set up a Keogh plan, you have to work with a provider that offers these plans. Most self-employed individuals who use Keogh plans have independent administrators to set up and administer their accounts. This is because administering a Keogh plan is more complicated than other types of accounts and requires filing an annual Form 5500. This can increase not only the time to administer a Keogh, but also the cost relative to other plans.
Keogh plans can be structured as either defined benefit plans that provide a set income in retirement (like pensions) or defined contribution plans (like an IRA). Defined benefit plans use actuaries and tell participants how much to contribute to achieve a certain income in retirement. Using defined contribution plans, participants get to choose their contribution level, but the value of their account at retirement will vary.
Defined benefit Keogh plans have an advantage over defined contribution plans because participants can contribute a larger percent of their income. However, Keogh plan contribution limits are $56,000, but vary by how a plan is structured. Also, whether or not Keogh plans are structured as defined benefit or defined contribution plans, there are typically better Keogh plan alternatives available.
If you want to contribute up to $56,000 to a qualified retirement plan, you may want to consider using a SEP IRA or Solo 401(k), which are much easier to administer than a Keogh plan. You can read more on how SEPs vary from Keoghs in the Keogh vs. SEP IRA section below.
Keogh Plan Benefits
A Keogh is a self-employed retirement plan that allows individuals and small business owners to make up to $56,000 in tax-deferred contributions each year. Their account grows tax-free until they take withdrawals after age 59½. Many IRAs limit contributions to 25 percent of income, but Keogh contribution limits can be higher if established as defined benefit plans.
Tax law used to treat incorporated and unincorporated retirement plan sponsors differently, which created cases where Keogh plans were decidedly better than alternatives. However, because these laws have been changed, Keogh plans are rarely the best option for a self-employed individual or small business owner. In most cases, you can get the same benefits and fewer administrative headaches with other retirement benefit accounts.
“In the past, Keogh plans were defined as a type of profit-sharing plan for unincorporated businesses, and some of the features, such as contribution limits, were a bit different (generally lower) from their counterpart in the corporate world. The only real difference now is that the earned income for the business owner that the profit-sharing contribution is calculated for may need to be adjusted by the amount of the contribution on his behalf.”
– Clifford L. Caplan, CFP, AIF, President, Neponset Valley Financial Partners
When to Use a Keogh Plan
Keogh plans used to be far more popular when unincorporated retirement plan sponsors were treated differently than corporate plan sponsors. However, since that law has changed, Keoghs are only beneficial in certain situations. Keoghs have some of the highest contribution limits available in dollar terms—$56,000—but also require an annual Form 5500 filing.
Some cases when a Keogh plan can be beneficial include:
- Self-employed individual who has a high income – Keogh plans require self-employment income and have high contribution limits (individuals earning over $150,000 per year).
- Small business owners who want a pension – Most IRAs are only available as defined contribution plans, but Keoghs can be structured as defined benefit plans like a pension.
- Individuals with self-employment income and no other retirement plan – If you’re self-employed and don’t have another retirement plan aside from a Keogh, you can contribute up as much as 100 percent of your income—more than IRAs—up to $56,000.
If you’re an employee of a company with a Keogh, you may also be able to use this plan in conjunction with another alternative, such as a Traditional IRA. This can be helpful if you do freelancing on the side and want to make additional contributions outside an employer-sponsored plan. Check out our section below to see how a Traditional IRA varies from a Keogh.
An Individual or Solo 401(k) is one of the most popular Keogh alternatives for self-employed individuals. If you don’t have employees, a Solo 401(k) can give you the same high contribution limits as a Keogh without the administrative costs. To see how a Solo 401(k) varies from a Keogh, be sure to check out the Keogh vs. Solo 401(k) section below.
Keogh Plan Costs
Keogh plan costs are one of the biggest drawbacks of these plans. Contribution limits for Keogh plans are the same as SEP IRAs and 401(k)s, but the costs of a Keogh can be much higher. This is because Keogh plans require much more administration, even though they have the same investment options.
Some Keogh plan costs include:
- Keogh plan setup fee: $500 – $5,000 upfront
Must draft and adopt a plan document. There are actuarial fees if you use a defined benefit plan.
- Annual actuarial and administration fee: $250 – $3,000 per year
Must file Form 5500. It may also require an annual actuarial review if you use a defined benefit plan.
- Trading commissions: $5 – $50 per trade
For trading stocks, bonds, options, or other individual securities in the account.
- Mutual fund commissions: up to 5 percent on new contributions
Depending on provider, may be commission-free, but can be up to several percent.
- Fund expense ratios: 0.03 percent – 2.00 percent annually
Many small business retirement plans are easier and more cost effective to administer than a Keogh plan. For more information on some alternatives, be sure to visit our article on the Best Small Business Retirement Plans.
Keogh Plan Rules
Many Keogh plan rules are the same as IRAs. However, Keogh plans also have additional rules that make them more restrictive and more expensive to administer. For example, Keogh plans must be set up before the end of the year they plan to contribute. Business owners also have to file an annual Form 5500.
Some Keogh plan rules issued by the IRS include:
- Must be self-employed to set up – A Keogh is a self-employment retirement plan because you must have self-employment income to be eligible. Having another plan at work doesn’t make you ineligible if you also have self-employment income.
- Can be a defined contribution or defined benefit plan – When you set up a Keogh, you get to choose which to use, but costs will vary. Defined benefit plans have higher contribution limits as a percent of income, but they also have actuarial costs.
- Must offer to eligible employees – If you set up a Keogh plan for your small business, you must make the plan available to any employee who is 21 years old or over and works at least 1,000 hours per year for your business.
- Must be set up before year-end – Unlike IRAs, you can’t set up a Keogh plan between the end of the year and your tax-filing deadline. The plan must be set up during the year for which it’s effective.
- No withdrawals before 59½ – People with Keogh plans can’t withdraw money before they’re 59½, just like in an IRA.
- Required minimum distributions at 70½ – If you still have a balance in your Keogh when you turn 70½, you have to start taking required distributions from your account.
- Pay taxes on distributions – Just like in an IRA, you have to pay income tax on Keogh plan withdrawals.
- Must file Form 5500 annually – Unlike IRAs, business owners with Keogh plans must file Form 5500 annually to report information on their plan to the IRS.
Keogh Plan Contribution Limits
Using a Keogh plan, self-employed individuals can contribute 25 percent of their pre-tax income, up to $56,000. If the Keogh is a defined benefit plan or you’re self-employed and the Keogh is your only retirement plan, you can contribute up to 100 percent of your pre-tax income, up to $56,000, in tax-deferred contributions.
Keogh plan contribution limits are:
- Defined contribution plans or used with other retirement plans: 25 percent of your pre-tax income, up to $56,000
- Defined benefit plan or your only retirement plan: 100 percent of your pre-tax income, up to $56,000
A Keogh is a unique self-employment retirement plan because it can be structured as either a defined contribution or defined benefit plan (like a pension). Keogh plan contributions vary depending on how you structure your plan. However, whether your plan is a defined contribution or defined benefit plan, you can only contribute up to $56,000 per year.
Keogh Plan Deadlines
Deadlines for Keogh plans are similar to IRAs but more restrictive when you set up your plan. According to Keogh plan rules, you have to establish your plan before the end of the year of the plan’s effective year. Once your plan is established, deadlines for contributions are the same as IRA alternatives.
Keogh plan deadlines to be aware of include:
- Setup deadline: Keoghs must be established before the end of the year the plan takes effect.
- Contribution deadline: Keogh plan contributions must be made before your tax-filing deadline for the contribution year, just like a SEP IRA.
Keogh Plan Taxes
Keogh plan tax rules are the same as IRAs and other qualified retirement accounts. Using a Keogh, contributions are tax-deductible. Once you contribute to a Keogh, your account grows tax-free, but qualified Keogh distributions are taxed as income. Tax treatment for Keoghs is the same whether your plan is a defined contribution or defined benefit plan.
In addition to income taxes on withdrawals, any Keogh plan distributions taken before age 59½ are subject to a 10 percent early distribution penalty. This is the same penalty that’s assessed on early withdrawals on 401(k) and IRA alternatives.
Keogh vs. SEP IRA
Since several changes were made to the tax code in the early 2000s, Keogh plans have been mostly replaced by alternatives, including SEP IRAs. Unlike Keogh plans, SEP IRAs can only be structured as defined contribution plans. However, SEP IRAs have the same contribution limits as defined contribution Keogh plans.
SEP IRAs are one of the most popular self-employment retirement plans available. The biggest drawback to a SEP is that employers who establish a SEP are required to fund contributions to employee accounts whenever they contribute to their own accounts. For more information on how SEPs work, be sure to visit our ultimate guide to SEP IRAs.
If you’re thinking about setting up a Keogh, you may first want to look at SEP IRA options. This will help you see relative investment options and administration requirements as well as plan costs. For more information on SEP IRA costs, be sure to check out our guide to the Best SEP IRA Providers.
Keogh vs. Solo 401(k)
A Solo 401(k) is another great self-employment retirement plan that’s ideal for businesses that have no employees except the owner. Solo 401(k)s are structured very similarly to other 401(k) plans but with fewer administration requirements. However, if you ever hire employees, a Solo 401(k) can be quickly expanded to add new participants.
Solo 401(k)s have the same high contribution limits as Keogh plans and are much easier to administer. Like SEP IRAs, Solo 401(k)s can only be set up as defined contribution plans, but they are much more flexible and cost-effective than Keogh plans. Check out our ultimate guide to Solo 401(k)s to learn more about these plans.
Another way to compare a Keogh versus Solo 401(k) is to study the investment options and costs of a Solo 401(k) available through several providers. You can also see how the administration requirements of a Solo 401(k) compare to a Keogh. Visit our list of the Best Solo 401(k) Providers for more information.
If you think you may want to set up a Solo 401(k) instead of a Keogh, we recommend that you check out Capital One Spark 401k. Spark 401k offers very cost-effective 401(k)s, including single-participant plans. Be sure to check out Spark 401k to see how they can help you with your Solo 401(k).
Keogh vs. SIMPLE IRA
If you’re a small business owner and you want to incentivize employee savings, a SIMPLE IRA can be a great alternative to a Keogh plan. SIMPLE IRAs are often called the “poor man’s 401(k)” because they very similar to 401(k) plans without the administration costs.
Using a SIMPLE IRA, participants can contribute up to $25,000 between salary deferrals and employer matching contributions. For employers, the big drawback of a SIMPLE IRA is that they’re required to match employee contributions up to 3 percent of employee compensation. For more information, be sure to check out our ultimate guide to SIMPLE IRAs.
You can also get a good idea of how SIMPLE IRAs differ from Keoghs by learning how to set up a SIMPLE. SIMPLE IRAs require employers to match employee deferrals, but they are much easier to establish and administer than Keoghs. To learn more, be sure to read about How to Set Up a SIMPLE IRA.
Keogh vs. Traditional IRA
Unlike a Keogh plan, a Traditional IRA is the simplest and most cost-effective retirement account available. Traditional IRAs aren’t employer-sponsored plans—each individual is responsible for setting one up on their own. Using a Traditional IRA, each participant can choose when and how much they contribute.
Traditional IRA contribution limits are $5,500 per year. Account holders over age 50 are also allowed to contribute an extra $1,000 in catch-up contributions. While Traditional IRA contributions are much lower than Keoghs, these plans are incredibly flexible and cost virtually nothing to setup or administer. Our guide to Traditional IRAs has more information if you think an IRA may be right for you.
If you already have a Keogh and want to cut back on administration requirements, you can always roll your account into an IRA. This will give you the same flexibility as IRA accounts without having to file a Form 5500 or continue administering your Keogh. If you want to rollover your Keogh into an IRA, be sure to check out our ultimate guide to Rollover IRAs.
Keogh Plan Frequently Asked Questions (FAQs)
If you still have questions about what a Keogh plan is or how it works, here are some of our frequently asked questions. If you don’t see an answer to your question here, be sure to join the discussion in the comments below or post your question in the Fit Small Business Forum.
Who Qualifies for a Keogh Plan?
In order to set up a Keogh plan, you must have self-employment income. However, if you’re self-employed, you must also allow eligible employees to enroll. Eligible employees are defined as any employee who is at least 21 years old and works at least 1,000 hours per year for your business.
Is a Keogh Plan a Qualified Plan?
A Keogh plan is considered a qualified plan because these accounts receive preferable tax treatment. Using a Keogh, contributions are tax-deductible and your account grows tax-free until you take distributions. When you withdraw money from a Keogh, those distributions are treated as taxable income.
Can You Have a Keogh Plan and an IRA?
In some cases, you can contribute to both a Keogh plan and an IRA. However, if you’re eligible for a Keogh plan, you may be restricted in how much you can contribute to an IRA. Contributions to a Keogh may limit the deductibility of your IRA contributions or make you ineligible to contribute to an IRA.
A Keogh plan is a self-employment retirement plan that was originally structured for self-employed individuals and operators of unincorporated businesses. Using a Keogh, you can make up to $56,000 in tax-deferred contributions per year. However, recent changes in tax code have caused Keoghs to be mostly replaced by IRA alternatives.
The high administrative costs of Keogh plans is another reason that they’ve been largely replaced by IRA and 401(k) alternatives. We recommend Capital One Spark 401k if you want to set up a cost-effective retirement plan for your small business to encourage employee retirement saving.