Can Real Estate Investors Have Keogh Plans?

Can Real Estate Investors Have Keogh Plans?

A Keogh plan (also called an HR10 plan) is a type of tax-deferred retirement plan designed for self-employed individuals or unincorporated businesses. Keogh plans have largely been overshadowed by Simplified Employee Pension (SEP) IRAs and Solo 401(k)s in recent years, but they still exist and follow similar rules regarding eligibility, contribution limits, and taxation.

1. The Core Eligibility Rule: Self-Employment Income

The most important factor determining whether you can establish a Keogh plan is whether you receive earned (self-employment) income from a trade or business. In contrast, passive income—such as dividends, interest, or rents from properties you passively own—does not qualify as earned income for these purposes.

What Counts as Self-Employment Income in Real Estate?

• Real Estate Agents and Brokers: If you are a licensed real estate agent or broker, operating as an independent contractor and paid on commission, those commissions are typically deemed self-employment income.
• House Flippers or Developers: If you actively engage in purchasing, renovating, and reselling properties as a business—generating profits from these transactions—this income is generally considered self-employment income.
• Property Management Business: If you run a property management service and earn fees for managing properties (yours or other clients’), those fees typically count as self-employment income.

On the other hand:

• Passive Rental Income: If you only collect rental income from one or more properties in which you do not materially participate (i.e., you simply own them and hire others to manage them), the IRS often considers that passive income. Passive income does not qualify as the kind of earned income needed to fund a Keogh plan.

2. Setting Up a Keogh Plan as a Real Estate Professional

If you do have the required earned or self-employment income from real estate activities, you may set up a Keogh plan. When doing so:

1. Choose the Type of Keogh Plan
   • Profit-Sharing Keogh: Allows contributions up to 25% of your net self-employment income (with an overall annual dollar limit, which the IRS adjusts periodically).
   • Money Purchase Keogh: Requires a fixed percentage contribution every year but can often allow for higher maximum contribution amounts (depending on your income).
2. Open the Plan
   You can usually set up a Keogh through most major brokerage firms or banks. You must formally establish the plan by year-end (December 31) of the tax year in which you want to make contributions (though you often have until your tax-filing deadline to actually fund it).
3. Make Contributions
   • Contributions are typically tax-deductible—reducing your taxable self-employment income for that year.
   • Earnings within the Keogh plan grow tax-deferred until you withdraw them (usually in retirement).

3. Comparing Keogh Plans with Other Self-Employed Retirement Options

Many self-employed real estate investors choose to use SEP IRAs or Solo 401(k)s rather than Keogh plans because they can be simpler to administer and offer similar contribution limits. Here’s a quick comparison:

• Keogh Plans (HR10)
  • Can be more complex in terms of setup and administration.
  • Good for high-income earners who want potentially higher contributions (especially in earlier years under money purchase plans), but SEP IRAs and Solo 401(k)s often match or exceed these benefits nowadays.
• SEP IRA
  • Very simple to set up and administer.
  • Contribution limit can be up to 25% of net self-employment income (up to the annual IRS cap).
• Solo 401(k)
  • If you have no employees (other than a spouse), a Solo 401(k) typically allows both “employee deferrals” (up to the annual 401(k) salary deferral limit) and “employer contributions,” often permitting higher total contributions than a SEP or certain Keoghs when net income is modest.
  • Can include a Roth component if desired.
  • May allow for borrowing from the plan, which is not an option in SEP IRAs or traditional IRAs.

4. Key Takeaways

1. Yes, Keogh Plans Can Apply: Real estate investors can use Keogh plans if they have self-employment income arising from active participation in real estate (e.g., flipping properties, real estate commissions, or property management fees).
2. Passive Rental Income Doesn’t Count: If your only income from real estate is passive rent collection, that income does not qualify as self-employment income, and you cannot fund a Keogh plan with it.
3. Consider Simpler Alternatives: Given changes in retirement plan regulations over the years, many real estate professionals opt for SEP IRAs or Solo 401(k)s instead of a Keogh plan because they tend to have fewer administrative burdens and similar or better contribution limits.

In short, a Keogh can be an excellent retirement vehicle if you’re a self-employed real estate professional with earned income. If you’re strictly a passive investor, though, you generally cannot use a Keogh plan. Reviewing your specific situation with a tax professional is always best to ensure you choose the right plan and maximize your allowable contributions.