A Keogh plan, also known as an HR-10 or qualified retirement plan, is a retirement plan that allows self-employed individuals up to $61,000 per year in tax-deductible contributions. It used to be very popular among high-income earning self-employed workers, but this was before they were eligible for more common retirement plans.
Changes in tax laws have made other retirement plans more popular. Keoghs can be very difficult to manage, so you may want to consider an alternative with similar benefits and fewer administrative headaches, such as a solo 401(k) plan. ShareBuilder 401k is a great choice as it offers low-cost 401(k)s for businesses of all sizes. Visit its website for more information.
How a Keogh Plan Works
Keogh plans were set up for self-employed individuals running unincorporated businesses. If you’re a W-2 employee, you must have income from independent business activities to qualify. However, tax laws changed to stop treating retirement plans for sole proprietorships and other companies differently, so Keogh plans fell out of favor.
Tax rules for Keoghs are the same as individual retirement accounts (IRAs) and other qualified retirement accounts. Using a Keogh, contributions are tax-deductible. Once you contribute, your account grows tax-free, but qualified distributions are taxed as income. Keogh’s tax treatment is the same whether your plan is a defined contribution (DC) or a defined benefit plan.
In addition to income taxes on withdrawals, any Keogh plan distributions taken before age 59½ are subject to a 10% early distribution penalty, the same penalty assessed on early withdrawals on 401(k) and IRA alternatives.
Keogh Plan Contribution Limits
Plan limits are set by the IRS and can change annually. As of 2022:
- Self-employed individuals can contribute 25% of their pretax income up to $61,000
- If the Keogh is a defined benefit plan, or if you’re self-employed and the Keogh is your only retirement plan, then you can contribute up to 100% of your pretax income, up to $61,000, in tax-deferred contributions.
A Keogh plan can be structured as either a defined contribution or a defined benefit plan like a pension. Contributions vary depending on how you structure your plan.
Keogh Plan Rules
The IRS has Qualified Plan rules, which apply to Keogh plans. These IRS rules include the following:
- Must be self-employed to set up: 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: You can 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: 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 age 59½: People with Keogh plans can’t withdraw money before age 59½, just like an IRA.
- Required minimum distributions at age 72: If you still have a balance in your Keogh when you turn age 72, you must start taking required distributions from your account.
- Pay taxes on distributions: Like with an IRA, you must pay income tax on Keogh plan withdrawals.
- Must file IRS Form 5500: Unlike IRAs, business owners with Keogh plans must file Form 5500 annually to report information on their plan to the IRS.
Keogh Plan Deadlines
Deadlines are similar to IRAs but more restrictive when you set up your plan:
- Setup: Keoghs must be established before the end of the year the plan takes effect
- Contribution: Keogh plan contributions must be made before your tax-filing deadline for the contribution year, just like a simplified employee pension IRA (SEP-IRA)
Keogh Plan Costs
Many providers no longer offer dedicated Keogh plans, so finding specific cost information may be difficult and vary widely from one provider to the next. In general, the costs of setting up a Keogh plan can be expected to fall in the following ranges:
Keogh Plan Setup Fee
$500 to $5,000 upfront
Annual Actuarial and Admin Fee
$200 to $3,000 per year
$5 to $50 per trade
Mutual Fund Commissions
Up to 5% on new commissions
Fund Expense Ratios
0.03% to 2% annually
Keogh Plan Benefits
There are benefits to a Keogh plan, although some are not exclusive benefits and can be found in other solo investing options:
- Tax-deferred contributions: A Keogh allows individuals and small business owners to make up to $61,000 in tax-deferred contributions each year.
- Tax-free account growth: Your account grows tax-free until you take withdrawals after age 59½.
- Higher potential contribution limits: Many IRAs limit contributions to 25% of income, but Keogh contribution limits can be higher if established as defined benefit plans.
While there are benefits to Keogh plans, changes to tax laws have made them harder to find and not necessarily better than alternative retirement plans. In most cases, you can get the same benefits and fewer administrative headaches with other retirement benefit accounts.
When To Use a Keogh Plan
Many self-employed workers who might have previously turned to a Keogh are now investing in alternatives. Here are a few situations where a Keogh may benefit you if you can find a provider:
- 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 are self-employed and don’t have another retirement plan aside from a Keogh, you can contribute up to as much as 100% of your income—more than IRAs—up to $61,000.
Tax laws used to treat incorporated and unincorporated retirement plan sponsors differently, which created cases where Keoghs were decidedly better than alternatives. However, because these laws have changed, Keoghs are rarely the best option for self-employed individuals or small business owners.
Keogh Plan Alternatives
Keoghs are hard to find now and are very difficult to manage. If you might have considered a Keogh in the past, one of the four alternatives listed below will likely have the same benefits with far fewer administrative headaches:
- SEP-IRA: 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. The biggest drawback to a SEP is that employers who establish it must fund contributions to employee accounts whenever they contribute to their own accounts.
- Solo 401(k): Solo 401(k) accounts are structured very similarly to other 401(k) plans but with fewer administration requirements. If you hire employees, a Solo 401(k) can be expanded quickly to add new participants. It has the same high contribution limits as Keogh plans and is much easier to administer. It can only be set up as a defined contribution plan, such as SEP-IRAs, and is much more flexible and cost-effective than Keogh plans.
- Savings Incentive Match PLan for Employees IRA (SIMPLE IRA): If you want to incentivize employee savings, a SIMPLE IRA can be a great alternative. It is 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 is that they’re required to match employee contributions up to 3% of employee compensation.
- Traditional IRA: A traditional IRA is the simplest and most cost-effective retirement account available. It isn’t an employer-sponsored plan—each individual is responsible for setting one up, and they can choose when and how much they contribute. Traditional IRA contribution limits are $6,000 per year, and account holders over age 50 can contribute an extra $1,000 in catch-up contributions.
While Keogh plans used to be very popular among high-earning self-employed individuals, changes to tax laws have made them fall out of favor. Any of the Keogh alternatives listed here will likely serve your needs just as well with far fewer regulations and headaches. If you can find a provider still offering a dedicated Keogh plan, it can still be beneficial. However, any traditional individual or solo 401(k) plan and many IRA options will be more widely available and better fit your retirement plan needs.