A Primer on 412(i) pension plans

by Tony Novak, MBA, MT, OnlineAdviser at Freedom Benefits, last updated on 12/1/2011

A 412(i) plan is a tax-qualified retirement plan that is designed to combine the low administrative costs of a money purchase pension plan with the high current tax deduction of a pension plan. The name comes from one of the sections of the tax code that authorizes their use. These plans are most commonly used for one-person businesses and are also sometimes known as Keogh plans. This article gives an overview of the uses and benefits, but intentionally avoids any technical description. For a more detailed discussion of the tax and legal issues, see www.tonynovak.com for the article titled “412(i) Annuity Plans for Small Businesses”.

412(i) plans are used today when an income earner wishes to shelter significantly more than the amount allowed under a profit sharing and 401(k) plan combination. As a rule of thumb, they work well when a person over age 55 making more than $100,000 wishes to immediately shelter more than $50,000 from current taxation.

The IRS gives a list of requirements for operating a 412(i) plan, but the stated rules are vague and subject to a wide range of interpretation directions on setting up and running a 412(i) plan. This means that there are both planning opportunities as well as tax risks. Plans may be self-administered, or handled by a financial services company. There is no assurance that the professionally administered plans are “safer” than self-administered plans, and in some cases the opposite may be true.

412(i) plans have nothing to do with life insurance, although they frequently tend to be marketed by life insurance agents. It is permissible to put some life insurance in the plan, but the life insurance must be a peripheral and incidental benefit of the plan. The majority of the plan benefit must be funded by an insured retirement income annuity.

Tony Novak is a member of the Pennsylvania Institute of Certified Public Accountants, the New Jersey Society of Certified Public Accountants and an accredited member of the Better Business Bureau.

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