Author Topic: Brokerage vs. IRA  (Read 2692 times)

stphnlwlsh

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Brokerage vs. IRA
« on: January 02, 2014, 09:11:41 AM »
I'm sure this has been asked before, but I can't seem to find it.  I'm probably not using the best search terms.

Both my wife and I are on board with MMM and badassity.  We are doing our best to be as frugal as possible and save as much as possible.  My question lies with where to put that money for right now.  I have about $600 in a Roth IRA, and about $50 in a brokerage that I just funded.  We just moved to a new (to us at least) rental home, and can be putting away about $2000 per month.  I haven't gotten to *when* exactly we'd like to retire, but it will definitely be before the draw time for the IRA with no penalty. 

Is dumping into the brokerage and taking the capital gains tax now so I'm not penalized later for drawing out of the IRA early when we do retire?  I'm still new to a lot of this stuff, so use laymen's terms :D

joleran

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Re: Brokerage vs. IRA
« Reply #1 on: January 02, 2014, 09:21:26 AM »
You seem to be asking whether you should eat capital gains taxes in a taxable account instead of using IRAs/401ks to defer taxes.  The answer considering the numbers you've mentioned is no, not until you've maxed out your tax advantaged savings.  There are multiple ways to get your savings out of these accounts without penalty before the retirement age.

At $2000/mo and starting from what it sounds like is next to nothing, you're going to have a long road ahead of you in savings before you're financially independent - roughly 15 years at that savings rate if you can live off $20k a year.

Saverocity

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Re: Brokerage vs. IRA
« Reply #2 on: January 04, 2014, 11:50:04 AM »
I'm sure this has been asked before, but I can't seem to find it.  I'm probably not using the best search terms.

Both my wife and I are on board with MMM and badassity.  We are doing our best to be as frugal as possible and save as much as possible.  My question lies with where to put that money for right now.  I have about $600 in a Roth IRA, and about $50 in a brokerage that I just funded.  We just moved to a new (to us at least) rental home, and can be putting away about $2000 per month.  I haven't gotten to *when* exactly we'd like to retire, but it will definitely be before the draw time for the IRA with no penalty. 

Is dumping into the brokerage and taking the capital gains tax now so I'm not penalized later for drawing out of the IRA early when we do retire?  I'm still new to a lot of this stuff, so use laymen's terms :D

Some tax concepts to consider:

There are two types of IRA, traditional and Roth - the former reduces your AGI now (and therefore reduces your tax bill now) but then when you start drawing from it in retirement it counts as income and is taxed.  The latter (Roth) does not reduce your AGI now but when you withdraw from it in retirement you don't count it as income.

The capital gains tax you refer to is something different, and applies to the sales of assets.  Therefore if you are trading (captial gains/losses only happen when you sell) in a taxable account you can get hit by cap gains tax. 

If you trade within a tax advantaged account (traditional or roth IRA) you don't get the capital gains tax - but in a way you can still get taxed if it is a traditional since you will have more money in the account that will be taxed as you pull it out.  The ROTH has no capital gains tax.

From a planning perspective it is likely that you will need a mix of several accounts, and most important would be a cash based emergency fund - it has to be in cash (checking/savings/money market/CDs) and probably should be 3-6 months of expenses depending on your risk profile.

After you have this, you should then focus on loading up your other options.  Don't forget that ROTHs and Traditional IRAs also have caps ($5500 this year) on what you can put in, so if you are saving $2000 per month between two people you will max them out and have some left over.  It is possible to funnel that in also, but probably not worth the hassle.

My advice would be:

Emergency Fund filled
Then
ROTH Contribution Maxed
Then
Taxable Brokerage for balance

I would say 'in that order' but you would also be wise to shuffle the order around if you are nearing tax deadlines (the next one to worry about for this is 12/31 so not really relevant)

After your EF is funded each year you will be able to put 11K into the ROTH and 13K into taxable brokerage.

wtjbatman

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Re: Brokerage vs. IRA
« Reply #3 on: January 04, 2014, 07:05:23 PM »
I would heartily recommend maxing out your Roth IRA(s) first. It sounds like you have put $600 in your Roth for 2013?  You have until mid-April to contribute to the Roth in the 2013 tax year. If I was in your shoes I would definitely do that. Taxable accounts seem more "fun", but keep in mind you can only put $5500 into each person's Roth per year, and if you don't max out your contributions for a year, you lose that chance.

So if I was in your shoes, I would keep a minimal emergency fund, get that Roth or Roths maxed out before April, then even start working on your Roth for 2014. After you've made your max contributions, then you should consider your taxable account.

sdp

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Re: Brokerage vs. IRA
« Reply #4 on: January 04, 2014, 10:00:56 PM »
don't even begin to worry about withdrawals right now!! max your ROTH right now and any other tax advantaged accounts you can think of.  there are numerous ways to get your money back out before the magic age, and even if there wasn't you could open and save the in a taxable account at the END of your career, not the beginning, get the retirement funds inplace first and then worry about the funds you will need before you turn 59.5 later. 

Say you can become FI when you are 50.  max out and build up as much as you can in your ROTH and other tax advantaged accounts until you have enough in them, then spend the last couple of years working and saving in a taxable account, say from age 47-50 or whatever that turns out to be.  Start at the end of your planning and work your way forward to today.
Cheers,
Scott

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Re: Brokerage vs. IRA
« Reply #5 on: January 10, 2014, 09:50:49 AM »
A couple of posts on other sites you should all read.

http://www.madfientist.com/retire-even-earlier/   - A 401K or traditional IRA can be the most useful way in accelerating your journey to FI.

http://www.gocurrycracker.com/never-pay-taxes-again/   - If you plan properly and are committed to this strategy, you can avoid paying federal income taxes once you reach FI.

Roth IRA's can be great, but for most frugal people who plan to live on less than $50K/year in FIRE, you can get a better long-term benefit by first fully funding all tax deferred vehicles (401K, traditional IRA, HSA, 529) and then slowly moving them into a Roth later.

If you're going to begin a brokerage account, pay attention to the tax gain and tax loss harvesting pointed out on these websites. They are powerful ways to avoid most of the taxes.