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Discover Keogh plans for the self-employed

Before retirement plan "creatures" like solo 401(k) plans, Simplified Employee Pension and Savings Incentive Match Plans for Employees ruled the Earth, there were Keogh plans. Alert: This age-old retirement plan isn't a dinosaur. In fact, for some self-employed individuals, a Keogh plan is still the best alternative. At the very least, if you're deciding on a retirement plan for your self-employed business, this type of plan deserves a close look. Here's the whole story: The Keogh plan, named after the Congressman who sponsored the legislation authorizing its use, was designed to provide retirement savings for unincorporated small business owners who couldn't benefit from the usual assortment of qualified retirement plans. (It was also referred to as an "HR 10 plan" due to the House number assigned to the bill.) After Congress enacted the Keogh plan in 1962, it quickly became the rage among self-employed professionals—including physicians, attorneys and dentists—who were self-employed and only had to cover a small staff. But then its popularity waned after the 2001 tax law imposed tougher requirements.

There are two main types of Keogh plans: the defined contribution Keogh and the defined benefit Keogh. The contribution limits are indexed annually for inflation. (Adjustments have been minimal or nonexistent in recent years.) 1. Defined contribution Keogh. For 2017, the maximum deductible contribution is equal to the lesser of $54,000 or 20% of earned income.

2. Defined benefit Keogh. As with defined benefit plans like the traditional pension plan, the contribution limits for this type of Keogh are based on actuarial computations. For 2017, the plan may provide an annual retirement benefit equal to the lesser of 100% of earned income for the three highest-paid years or $215,000. But there's another tax twist. To compute "earned income" for a plan, your earnings from self-employment must be reduced by your contributions and one-half of the self-employment tax you pay. Furthermore, note that the maximum amount of compensation allowed to be taken into account for this calculation is limited to $270,000 for 2017. Most of the other standard tax rules for qualified retirement plans also apply to Keoghs. For instance, withdrawals made prior to age 59½ are hit with a 10% tax penalty, on top of the regular income tax owed, unless you qualify under a special exception. And you must start taking required minimum distributions (RMDs) in the year after the year in which you attain age 70½ if you're not still working full time. RMDs are based on your account balance and life expectancy. If you employ other workers, you must cover those employees under the Keogh plan in the same proportion as you do for yourself. Because contributions are based on a percentage, the actual dollars you receive can surpass the amounts contributed for other staff members by a lot. For some small business owners, this gives Keoghs a definitive edge. Caution: If a plan is found to be "top-heavy," certain minimum contributions must be made for employees. A plan is top-heavy if more than 60% of contributions or benefits go to key employees of the firm—like yourself. Tip: The deadline for contributions to a Keogh for 2017 is your tax return due date, plus extensions, as long as you set up the plan before Jan. 1, 2018.


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