41.8 How Keogh Plan Distributions Are Taxed

Distributions from a Keogh plan generally may not be received without penalty before age 59½ unless you are disabled or meet the other exceptions listed in 7.15. If you are a more-than-5% owner, you must begin to receive minimum required distributions by April 1 of the year following the year in which you reach age 70½, even though you are not retired; penalties may apply if an insufficient distribution is received (7.13).

A lump-sum and other eligible distributions (7.7) may be rolled over tax free to another employer plan or IRA. For participants born before January 2, 1936, 10-year averaging may be available (7.2). Pension distributions from a Keogh are taxed under the annuity rules discussed in 7.25, but for purposes of figuring your cost investment, include only nondeductible voluntary contributions; deductible contributions made on your behalf are not part of your investment.

If you receive amounts in excess of the benefits provided for you under the plan formula and you own more than a 5% interest in the employer, the excess benefit is subject to a 10% penalty. The penalty also applies if you were a more-than-5% owner at any time during the five plan years preceding the plan year that ends within the year of an excess distribution.

Other rules discussed in 7.1 − 7.16 apply to Keogh plans as well as qualified corporate plans.

After the death of a Keogh plan owner, distributions to beneficiaries may be spread over the periods discussed at 7.14 provided the plan covers more than one person. Distributions to a surviving spouse can be rolled over to that spouse’s IRA. The plan may provide that distributions to non-spouse beneficiaries can be rolled over directly to an IRA, enabling them to spread distributions over their life expectancy.

Planning Reminder

Small Employer Credit for Retirement Plan Startup Costs

Employers with 100 or fewer employees that do not have a qualified retirement plan generally may claim a tax credit on Form 8881 for administrative costs of setting up a pension plan, profit-sharing plan, 401(k) plan, SEP, or SIMPLE plan. At least one non-highly-compensated employee must be covered. The maximum credit is $500, 50% of the first $1,000 of startup costs. The credit is allowed for costs incurred in the year in which the plan takes effect and in the next two years.

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SEP distributions.

Distributions from a SEP are subject to the IRA rules at 7.8.