Brokerage Account vs. IRA: What's the Difference?
Knowing the differences between brokerage accounts and individual retirement accounts (IRAs) can help you make an informed decision about your investment options. Gain insights into the unique features, tax implications, and advantages associated with each type of account, ultimately guiding you towards the best financial strategy for your retirement goals.
What is a brokerage account?
Brokerage accounts are investment accounts that allow individuals to buy and sell investment assets, such as stocks, bonds, mutual funds, and exchange-traded funds (ETFs). These accounts do not have specific tax advantages, and any profits, dividends, or interest earned are subject to taxes, such as capital gains tax. Brokerage accounts offer more flexibility in accessing funds and do not have contribution limits.
What is an IRA?
IRAs are tax-advantaged savings accounts specifically designed to help individuals save for retirement. There are different types of IRAs including Traditional and Roth, each with their own eligibility requirements, contribution limits, and tax benefits. IRAs allow individuals to invest in a diverse range of assets while benefiting from tax-deferred or tax-free growth of earnings, depending on the type of IRA. These accounts can be funded in several ways, including earned income and rollovers.
What are the differences between brokerage accounts and IRAs?
Brokerage accounts and IRAs are both investment accounts, but each serve different purposes and have distinct features. Some differences between brokerage accounts and IRAs include:
Brokerage Account:
Investments in a brokerage account are subject to capital gains tax on any profits earned when selling an investment. Dividends and interest income are also taxable in the year they are received.
Traditional IRA:
Contributions to a traditional IRA may be tax-deductible, depending on your income and whether you are covered by an employer-sponsored retirement plan. The earnings within the account grow tax-deferred until you withdraw the funds in retirement, at which point they are taxed as ordinary income.
Roth IRA:
Contributions to a Roth IRA are made with after-tax dollars, meaning they are not tax-deductible. However, earnings grow tax-free, and qualified withdrawals in retirement are also tax-free.
Brokerage Account:
There are no limits on the amount you can contribute to a brokerage account.
Traditional IRA:
The contribution limits for 2024 are $7,000 per year, or $8,000 for those aged 50 or older.1 These limits may change annually because of inflation adjustments.
Roth IRA:
The contribution limits for 2024 are $7,000 per year, or $8,000 for those aged 50 or older.1 These limits may change annually because of inflation adjustments.
Brokerage Account:
You can withdraw funds from a brokerage account at any time without any penalties. However, you will be subject to capital gains tax on any profits earned from your investments.
Traditional IRA:
Withdrawals from a traditional IRA are allowed without penalty starting at age 59½. Early withdrawals (before age 59½) are subject to a 10% penalty in addition to regular income tax, unless an exception applies.
Roth IRA:
You can withdraw your contributions (but not earnings) from a Roth IRA at any time without penalty or taxes. Earnings can be withdrawn tax-free and penalty-free after age 59½, as long as the account has been open for at least five years. Early withdrawals of earnings may be subject to taxes and a 10% penalty unless an exception applies.
Brokerage Account:
Investors can generally invest in a wide range of assets, including stocks, bonds, mutual funds, ETFs, and more.
Traditional IRA:
IRAs offer a variety of investment options, but there may be certain restrictions on exotic or high-risk investments in certain retirement accounts.
Roth IRA:
IRAs offer a variety of investment options, but there may be certain restrictions on exotic or high-risk investments in certain retirement accounts.
How to Decide if a Brokerage Account or IRA is Right for You
When deciding between a brokerage account and an IRA, consider your financial goals, tax situation, and investment objectives.
- Evaluate the purpose of the account
Is it for retirement savings or more flexible investing?
- Assess the tax benefits
IRAs offer tax-deferred or tax-free growth, while brokerage accounts are subject to taxes on earnings.
- Consider contribution limits
IRAs have annual limits, while brokerage accounts do not.
- Factor in withdrawal rules and penalties
IRAs have age restrictions, whereas brokerage accounts allow more flexibility.
- Examine investment options
Each account type offers their own unique investment options.
It's crucial to analyze your individual circumstances and consult with a financial advisor if needed before making your decision.
How to Open an Investment Account
Whether you want to open a brokerage account or an IRA, there are many options available to help you invest and save for retirement. When deciding which account to choose, consider speaking with a financial professional to determine which option is best for you and your family.