Retirement savers are conditioned to take full advantage of their 401(k) or other workplace plan to save for retirement. Most of us are also very familiar with the IRA and Roth IRA for saving as well. I frequently find that many folks don’t include a taxable investment account (or, brokerage) into their savings and investing plan. A taxable investment account is a tremendously beneficial way to save and invest. We’ll get to that in a minute. First, let’s review a few of the shortfalls of the most common types of saving vehicles we know.
The 401(k) has been the stalwart for building retirement wealth. Although I love a good, qualified workplace plan because of the ease of use for workers via payroll deductions, these plans do have a few downsides. Mainly, generally speaking, they are costlier for participants than a taxable investment account. The plans also come with annual caps on how much you can save. You also have to have earned income to participate. They can come with sharp penalties if tapped before age 59 1/2 in some circumstances. Once you do retire, there are required minimum distributions (RMDs) at age 72 (some of you may have started at 70 1/2 before the age was raised). To top it all off, distributions are taxed at your federal income tax rate based on annual income.
For IRAs, the case is very similar: early withdrawal penalties, RMDs (on the traditional IRA), and low annual contribution amounts ($6,000 for most, an extra $1,000 if age 50+). However, one big difference is that with the Roth IRA, there are no RMDs at age 72, and if the distribution is qualified, no tax! That is huge. But you are still limited to a small investment amount each year. Rollovers are not subject to this limit. And, you need earned income or you need to be the spouse of someone with earned income. To add insult to injury, with both types of IRAs you need to be concerned with your total annual earned income! For the traditional IRA, too much income and you get no deduction. For the Roth IRA, too much income and you can’t even make a contribution. You then have the added complexity of a backdoor Roth IRA maneuver if you wish to contribute. It’s nuts!
Say hello to the taxable investment account (brokerage). These accounts are incredibly flexible, very useful, and come with far less rules and restrictions. They are fantastic for most goal timelines whether you are saving for an RV purchase in 3-to-5 years, or you plan on not touching the account until retirement. It’s a workhorse account for planning purposes.
First of all, practically anyone can open a taxable investment account. Even your child can have a taxable investment account, but this does take some work. It’s also not without its downsides. Basically, a guardian oversees the account until age of majority and then the child has access to all that money! But you get the picture, practically anyone can have a taxable investment account. Better yet, no income requirements! That’s right, no requirement that you have earned income and no income caps for contributing to your taxable investment account. Unlike 401(k) plans and IRAs, there’s also no contribution limit.
Unlike IRAs and 401(k) accounts, your investment options are pretty much unlimited. You can invest in stocks, bonds, mutual funds, ETFs, options, futures, precious metals, commodities, and possibly even OTC (over-the-counter) stocks or crypto currencies if your brokerage is set up for that. The investing world is your oyster!
But wait, there’s more… Now we get to the good stuff. The reason it’s a taxable investment account. Taxation on these accounts is very straightforward without penalties and RMDs. Unlike the 401(k) and IRA universe, your taxation on a taxable investment account distribution will either be your federal ordinary income tax rate, or it will be long-term capital gain rates. If you make an investment in your taxable investment account, and sell it within 1 year, you pay ordinary income tax on any gain. If you make that investment and hold it for more than 1 year before selling, you pay long-term capital gain rates that range from 0% to 15% to 20% on any gain. This long-term capital gain rate depends on two factors: your filing status, and your total income for the year. Theoretically, if your income is low enough for the year, you might be in the 0% range for tax on your long-term gain.
Ah, one more thing. There are no RMDs with a taxable investment account! That’s icing on the cake. With no income limits, no contribution limits, no RMDs, no tax penalties, and lower taxation if the investment is held for at least 1 year, a taxable investment account is extremely valuable as a saving and investing tool. You can use it for periodic goals, or feed it, leave it and let it grow until retirement.
As an independent CERTIFIED FINANCIAL PLANNER™, I can help you plan for retirement or other goals. Contact me and let’s get started on a savings, investing, or retirement plan. #talktometuesday #education #Hireaplanner #stressfree #IRA #Roth #savings #retirement #CFPPro #whatsMYnumber #brokerage #taxableinvestmentaccount