What is it?

1. What is it? • a qualified retirement plan that covers a sole proprietor or partner who works in his or her own business • in general, works like any qualified plan

2. When is it indicated? • self-employed business owner needs long-term capital accumulation for retirement • owner of unincorporated business wants a plan that provides retirement benefits for regular employees as well as for business owner • need to shelter self-employment income from income tax

3. Advantages • Keogh contributions are deducted from gross income and tax deferred until funds withdrawn at later date • investment income in Keogh plan tax deferred • plan loans to owner-employees subject to same rules as are applied to regular employees • some lump-sum benefits eligible for special 10 year averaging

4. Advantages • limits on Keogh plan contributions are more liberal than IRA contributions • business employees must participate in the plan • certain employers may be eligible for $500 business tax credit of up to $500 for ‘qualified startup costs’

5. Disadvantages • Keoghs involve cost and complexity of qualified plans; can minimize these factors if use prototype plans • large number of employees may increase costs required to meet nondiscrimination rules • 10% penalty plus tax on amounts withdrawn before age 59½

6. Disadvantages • Keogh plans follow qualified plan distribution rules; for more than 5% owner, distributions must begin by April 1 of year after attain age 70½, regardless of retirement status • life insurance for self-employed person is treated less • favorably than for regular employees

7. Types of Keogh Plans typical plan is designed as profit share without a fixed contribution formula, but other forms may be used defined contribution plan • tax deductible contributions to limit of 25% of total payroll of plan participants • flexible contributions • compensation base limited to $245,000 (2009)

8. Types of Keogh Plans 401(k) plan • can establish a solo 401(k) plan • matching contributions to 401(k) plan for self-employed person are not treated as elective employer contributions; thus not subject to $16,500 (2009) annual limits

9. Types of Keogh Plans money purchase plan • fixed annual contribution formula of up to 25% of earned income • mandatory contributions

10. Types of Keogh Plans defined benefit plan • advantageous for older employee • allows higher contribution level than defined contribution plans

11. How are Keoghs Different from Other Qualified Plans? since self-employed individuals are technically not “employees,” some special rules exist regarding treatment of • earned income • life insurance

12. How are Keoghs Different from Other Qualified Plans? earned income • for self-employed, ‘earned income’ takes the place of ‘compensation’ in applying qualified plan rules • earned income is net income from business after all deductions; deduction for 1/2 of self-employment tax must be taken before taking deduction for Keogh plan contributions

13. How are Keoghs Different from Other Qualified Plans? life insurance • can be used as an incidental benefit in a plan covering self-employed • the pure life insurance element of an insurance premium is NOT tax deductible

14. How are Keoghs Different from Other Qualified Plans? life insurance (cont’d) • only the portion of the premium that exceeds the pure protection value of the insurance is deductible • Table 2001 costs, although included in income because they were nondeductible, are NOT includible in cost basis

15. Tax and ERISA Implications • Keogh plans generally have same tax and ERISA implications as regular qualified plans • annual reporting requirement for qualified plans simplified for many Keogh and other small plans

16. Alternatives incorporate the business and adopt a corporate plan • owner then becomes shareholder and employee of corporation • may result in higher taxes • advantage of corporate plans over Keogh plans is minimal

17. Alternatives Simplified employee pension (SEP) or SIMPLE IRA • may be simpler to adopt than Keogh plan • SEP can be adopted as late as the individual’s tax return filing date, past the deadline to adopt a new Keogh plan

18. Alternatives tax deductible IRA contributions • may be adopted as late as the individual’s tax return filing date, past the deadline to adopt a new Keogh plan • IRA contribution limits are much lower than Keogh plan limits

19. How to Install a Plan Keogh plans follow installation procedure for qualified plans ‘prototype plans’ designed by bank, insurance company, mutual fund, or other financial institution are common • institution does most of the paperwork to install plan at low or no cost • self-employed must keep most or all funds invested with that institution

20. True or False? • An owner of an unincorporated business can utilize a Keogh plan. • A person who has self-employment income as well as income from employment can use a Keogh plan to defer taxes on the self-employment income. • Keogh plan limits are more generous than the limits on an IRA.

21. True or False? • A Keogh plan becomes more costly to administer the more employees that are covered. • A defined benefit plan cannot be used as a Keogh. • “Earned income” for the self-employed does not include a deduction for Keogh plan contributions. • Life insurance in a Keogh plan is treated the same way as it is in any other qualified plan.

22. Discussion Question Suppose a self-employed person has a Keogh plan. Discuss what would happen in each of the following situations: • plan participant becomes disabled • plan participant dies • plan participant wants to initiate and fund a traditional IRA or Roth IRA • plan participant is also covered under a corporate plan as an employee