A taxable brokerage account has no contribution limit, no income limit, and no penalty for taking money out at any age. Once you’re getting your full 401(k) match, open one to invest for goals at least five years away that come before age 59½, and for savings past your 401(k) and IRA limits.
Those limits come with the accounts’ tax breaks, and so does a 10% penalty on top of income tax for most withdrawals before 59½. What you put into a Roth IRA is the exception, since it comes back out anytime without tax or penalty.
A taxable account gets no deduction and no tax-free growth. You owe tax each year on the dividends your investments pay, even when they’re reinvested, and on any gain when you sell. A gain on a stock or stock fund held more than a year is taxed at the federal long-term capital gains rate of 0%, 15%, or 20%, depending on your taxable income. Dividends your broker’s year-end tax form lists as qualified get the long-term rates too.
Open a taxable brokerage account once you’re getting the full 401(k) match and have paid off high-interest debt. For goals before 59½, fund a Roth IRA first if your income lets you contribute to one. For retirement, max out your 401(k) and IRA first, and put only the rest in the taxable account.
Money you’ll need within five years belongs in a high-yield savings account instead, since a stock fund can be worth less than you paid by then.
Three habits keep the taxable account’s tax bill small:
- Buy broad stock index ETFs, exchange-traded funds that track a whole market. They rarely pay out capital gains, the taxable profits a fund makes selling its holdings, so you owe most of the tax only when you sell.
- Hold a winner more than a year before you sell it, since a gain held a year or less is taxed as regular income.
- Sell losing investments to cancel out gains you’ve cashed in.
A couple who retires at 50 can live on their taxable account until 59½, when withdrawals from their 401(k)s and IRAs no longer cost the penalty. With no paychecks coming in, their taxable income can be low enough for the 0% rate on the long-term gains they sell.
Compare the best online brokers to choose where to open your taxable account.
Editorial & Advertiser Disclosure: The editorial content on this page is not provided, commissioned, reviewed, approved, or otherwise endorsed by any advertiser. Opinions expressed here are ours alone, not those of any advertiser. The offers that appear on this site are from companies that compensate us. That compensation may influence which products we cover and where and how they appear on a page – including the order in which they appear – but it does not influence our evaluations, ratings, or opinions. We do not include every company or offer available in the marketplace.
Related:
