Whether you plan to buy a home or start a business in a few years, using a brokerage account is a flexible place to invest for financial goals. They give you access to a wide range of investment products, allowing you to invest in cryptocurrency, stocks, index funds, exchange-traded funds (ETFs), precious metals, and more.
Before you put money in one, here are nine things you should know about investing in a brokerage, including its pros and cons.
1. Brokerage accounts don’t have contribution limits
Unlike tax-advantaged retirement plans — like an individual retirement account (IRA) or workplace 401(k) — brokerage accounts don’t cap the amount you can contribute yearly. They have no funding deadlines and allow you to invest any amount whenever you like.
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2. Brokerage accounts don’t have withdrawal penalties
If you’re under 59.5, you typically must pay a 10% early withdrawal penalty plus income taxes on any amounts not previously taxed for retirement accounts. With a brokerage, you can withdraw an unlimited amount from your account anytime.
3. Brokerage accounts don’t require distributions
Another significant difference between a brokerage and a retirement account is that you’re never required to withdraw money. With pre-tax retirement accounts, you must make required minimum distributions (RMDs) starting at age 73 to ensure you pay income taxes on your balance. But you can keep funds invested indefinitely with a brokerage and pass them to your heirs.
4. Brokerage accounts are relatively liquid
While having funds invested in a retirement account or brokerage isn’t as liquid as keeping them in a high-interest savings account, a brokerage allows you to sell investments and cash out anytime without penalty.
5. Brokerage accounts are taxable
Unlike retirement accounts, brokerages require you to pay tax annually on any capital gains (profits from selling an investment for more than its purchase price), interest, and dividend income. The tax amount depends on how long you owned the investment, your tax filing status,s and your tax bracket.
6. Brokerage accounts are usually insured
Brokerage firms offering taxable or tax-advantaged accounts that are members of the Securities Investor Protection Corporation (SIPC) insure each of your account types for up to $500,000 if the brokerage goes out of business. Up to $250,000 of the insurance can cover uninvested cash in your account.
For instance, if you have an IRA and a brokerage account with the same investing firm, the SIPC insures them separately for a total of $1 million. However, there isn’t insurance against getting poor investing advice or buying investments that decline in value.
7. Brokerage accounts typically charge fees
Brokerage accounts are easy to open at financial institutions or online platforms. New accounts may be free or require an initial minimum investment, ranging from $10 to thousands of dollars, depending on the firm. You may also have to keep a certain balance to avoid ongoing management fees.
Transaction fees may apply to buying and selling particular investments in a brokerage. Funds also have fees, known as an expense ratio. For example, a 1% expense ratio means that 1% of the fund’s assets are used for expenses such as management and advertising.
In general, it is best to choose lower-cost funds, such as ETFs and index funds, to avoid unnecessary costs that reduce returns.
8. Brokerage accounts allow easy diversification
Choosing a diversified portfolio, such as one or more funds that bundle investments — like stocks, bonds, assets, and additional securities — is a wise strategy for the average investor. That’s because no one can predict whether the value of an individual security will go up or down.
Funds, such as index, mutual,l and ETFs, are convenient to purchase even though they comprise hundreds or thousands of underlying investments. If some securities within a fund lose value, some will hold steady or increase in value, which minimizes potential losses.
9. Brokerage accounts offer different services
Choosing the right brokerage can make a huge difference in your investing experience. First, consider whether you want a taxable account, retirement account, or both. Then, consider your investing preferences, such as choosing your own investments or getting help from an advisor.
Some brokerages offer free advice, and others charge for assistance. You should consider a firm’s investing fees based on the type of advice you want or need.
As with any financial decision, do your homework to compare brokerages and consider your unique circumstances and preferences. If you’re unsure how to choose investments, don’t hesitate to seek advice from an account representative or an independent financial advisor.