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Succulents

Investment Accounts

Choose your Brokerage

A brokerage is a company that offers investment accounts.  Three well-known, low-cost brokerages are Vanguard, Schwab, and Fidelity.  Within these companies, you can hold different types of investment accounts.  

Choose Your Investment Account

There are a variety of investment accounts. The two broadest categories are taxable accounts and tax-advantaged accounts.

 

Taxable accounts have no limits on how much you can contribute or when you can withdraw the money. They are called taxable because you will pay taxes on capital gains and dividends. 

 

Dividends are payments made to the investor from the company's earnings. Even if you reinvest the dividends, you must pay taxes on them.  Capital gains are incurred when you make money by selling a stock at a higher price than you bought it. The money you make, or the gain, from selling stocks held for more than a year (long-term capital gains) are taxed at a lower rate than stocks held for less than a year (short-term capital gains).  

A woman analysing stocks

Tax-advantaged accounts have a tax benefit in exchange for restrictions on contributions and withdrawals. Within the umbrella of tax-advantaged accounts, there are two main types: pre-tax accounts and post-tax accounts.  

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  • Pre-Tax accounts have a tax-deferred benefit. The contributed money is deducted from your taxable income. The money can grow tax-free. When the money is withdrawn, it is taxed. These accounts include Traditional IRA, 401(k), 403(b), and 457(b). Health Savings Accounts (HSAs) would also fall into this category, except that the withdrawn money is not taxed when used for health expenses.​

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  • Post-Tax accounts consist of accounts where taxes are paid by the employee on the money that is contributed to the account. The money is allowed to grow tax-free and withdrawals are tax-free. The most common post-tax accounts are Roth IRA, Roth 401(k), Roth 403(b), Roth 457(b), and 529 plans. There is a rare account called an after-tax 401(k) (not to be confused with a Roth 401(k)). If you have an after-tax 401(k), the money grows tax-free but the earnings are taxed when withdrawn. You will not likely encounter this account, but it is good to know that after-tax does not always mean Roth.

Investment Account Chart

Which Account Should I Choose?

The account in which you choose to invest will depend on your investing goal and what accounts are available to you.

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What is your investing goal?

 

  • 529 plans are for educational expenses.

  • Health Savings Accounts (HSA) are for healthcare expenses.

  • Taxable brokerage accounts can be used for early retirement or additional savings.

  • Individual Retirement Accounts (IRA), 401(k), 403(b), and 457(b) and their Roth counterparts are for retirement savings. 

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What accounts are available to you?

 

  • 529 plans are available to anyone.

  • HSAs are available if you have an HSA-eligible high-deductible health insurance plan.

  • Taxable accounts have no restrictions on who can contribute to them, what type of money can be contributed, or when money can be withdrawn.

  • IRAs are available to anyone who has taxable income, or anyone with a spouse that has taxable income. A spousal IRA (Roth or Traditional) is an IRA for an unemployed spouse that allows them to contribute based on their spouse's income. A Roth IRA is available if your income is under a certain limit set by the Internal Revenue Service (IRS) each year. There is no income restriction to contribute to a traditional IRA, but being eligible to deduct the contribution from your taxes is dependent on your income and whether you participate in a workplace retirement plan. 

  • Employers offer 401(k), 403(b), and 457(b) plans as retirement benefits. 403(b) plans are provided by nonprofits, while 401(k) plans are provided by for-profit companies. 457(b) plans are provided by state and local governments and some nonprofits. If the employer offers a contribution match, it is best to contribute at least up to the match to receive that benefit. If your employer allows Roth contributions, your contributions will be Roth (post-tax) and the employer contributions will be pre-tax.  

 

 

All retirement plans have a penalty if you withdraw earnings before age 59 1/2, except when certain specific circumstances are met, such as buying a first home or becoming disabled.  Roth accounts allow you to withdraw contributions (not earnings) before age 59 1/2 since you have already paid taxes on this money. The rules for each type of account can be varied and quite complicated.  You can contact your plan administrator to learn more about the specific rules governing early withdrawals for your plan.

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Once you determine the best account available to you for your goals, you will need to choose your investments and build a portfolio.

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