What Type of Account Do I Need to Buy Stocks?

Part 4 of a series on how to get started with investing in the stock market.

Welcome back for Part 4 of your Beginners Guide to Investing Crash Course!

In the last few articles we discussed WHY we want to invest, we know what stocks are, and we know how to find good companies to buy. Sooooo, how do we buy them?

You need 3 things in order to buy stocks, two of which you already have (hopefully).

Your list of companies you like that you in the previous article.
Some money (we’ll talk about how much money soon)
An account to buy the stock

Item 3 is actually the subject of today’s article.

You need an account, but not all accounts are the same. Knowing which one is for you is very important.

There are several different types of accounts, each with pros and cons.

Regular Brokerage Account

The first type of account is your standard brokerage account. You can use this account to buy and sell stock.

Ease of setup: These are usually easy to set up, and can likely be opened online in just a few minutes.

Restrictions: Regular brokerage accounts don’t usually have account minimums. You can usually contribute as much money as you want. NO LIMITS! You can buy and sell stock when the markets are open (9:30 am to 4pm EST), and sometimes after hours as well.

Taxes: If you buy a stock, and then sell it at a profit, you will have to pay taxes on that stock. If you sell it profitably within a year it is taxes at your regular income tax rate. If you hold it longer than a year, you pay slightly less tax (known as capital gains tax). Speak to an accountant for more info.

Fees: Many brokerage accounts allow you to buy and sell stock without having to pay a commission (Pretty sweet)

Ability to Withdrawal: You can take your money out whenever you want.

401k

Ease of set up: 401ks are sometimes (but frequently) offered by your employer. You will need to will out paperwork in order to enter your company’s 401k. There is usually someone at the company to help you through the process. Connect with them and they will answer all your questions. Your employer will also usually match your contribution to a certain % of your salary.

Restrictions: You can contribute up to $19,500 as of 2021. That number changes over time. If you are age 50 or older, you can contribute an additional $6,500 a year as a catch up contribution.

Taxes: The amount you contribute to the plan is deducted from your taxable income, meaning you don’t pay income tax on your contributions. You don’t pay taxes on profits until you make a withdrawal. Withdrawals from your 401k are taxed as basic income. This is based on your income level at that time. For example, if you withdrew $100k from your 401k, it is as if you made $100k at your job that year (even though you already retired), and you would pay regular income tax on that $100k.

Fees: The investment funds you buy into via a 401k usually come with fees. They will differ from fund to fund, and you should ask about the fees, because they can affect your overall return.

Ability to withdraw: You can not withdraw your money until you are 59 ½. If you do withdrawal before that age, you will be hit with a 10% penalty. If you have retired and are aged 72 or older, you are required to take a minimum distribution.

Traditional IRA

Ease of set up: Traditional IRAs are easy to set up and can usually be done online in just a few minutes.

Restrictions: You can contribute $6,000 annually to your Traditional IRA. If you are aged 50 or older, you can contribute an additional $1,000 as a catch up contribution. You can only contribute earned income, meaning money you made at work. There are a few other ways to earn income, but for most people, it’s just the money you make at work. If you make less than $6,000, then the amount you made is the max you can contribute to your Traditional IRA.

You can have both a 401k and an IRA, but there are rules, so speak with a certified investment or tax professional.

Taxes: Similar to a 401k, your Traditional IRA contributions lower your taxable income in the year you contribute. This starts to phase out if you make more than $65,000 as an individual or $104,000 as a married couple. You will pay regular income tax when you withdrawals.

You do not pay taxes on profits from trades made inside your Traditional IRA while the money is in the account.

Fees: For many online brokers, you can make stock trades in your Traditional IRA without paying a commission.

Ability to withdraw: You can start withdrawing from your Traditional IRA when you hit age 59 ½. If you withdraw before that time, you will pay a 10% penalty.

ROTH IRA

Ease of set up: ROTH IRAs are easy to set up and can usually be done online in just a few minutes.

Restrictions: You can contribute $6,000 annually to your ROTH IRA. If you are aged 50 or older, you can contribute an additional $1,000 as a catch up contribution. You can only contribute earned income, meaning money you made at work. There are a few other ways to earn income, but for most people, it’s just the money you make at work. If you make less than $6,000, then the amount you made is the max you can contribute to your ROTH IRA.

You can contribute that amount to your ROTH IRA as long as you make less than $124,000 per year. Between $124,000 and $139,000 you can make partial contributions.

Taxes: Unlike a Traditional IRA, your contributions to your ROTH IRA do not lower your taxable income. The upside is that you do not pay any tax when you withdraw from your account after the age of 59 ½.

You do not pay taxes on profits from trades made inside your ROTH IRA while the money is in the account.

Fees: For many online brokers, you can make stock trades in your ROTH IRA without paying a commission.

Ability to withdraw: You can start withdrawing from your ROTH IRA when you hit age 59 ½. If you withdraw before that time, you will pay a 10% penalty.

In Summary

There are several different types of accounts for you to buy stock in. Each has different rules associated with them, and different pros and cons. You should speak with a certified investment professional that will help you make the right decision for you and your particular situation.

You can open an account, contribute money, and start buying shares of the companies you love. Before too long, you will see the balances growing. You can get started and continue to learn as you go.