When Does It Make Sense to Open a Taxable Brokerage Account?

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Opening a taxable brokerage account is a smart choice if you’ve claimed key tax breaks already. Here’s what you need to keep in mind. 

Some types of brokerage accounts have tax advantages. For example, if you invest in a traditional IRA, you can typically take a tax deduction for the amount you contribute each year (up to annual contribution limits). Or if you invest in a Roth IRA, you’ll be able to take money out tax-free. With these accounts, your money also grows tax-free so you can sell investments at a profit without having to pay capital gains taxes.

If you open a taxable brokerage account, though, you won’t get to deduct contributions, make tax-free withdrawals, or avoid taxes in most cases. But investing money in this kind of account still makes sense in some circumstances. Here’s what they are.

When you’ve maxed out tax-advantaged accounts

In many cases, it’s a smart decision to max out contributions to tax-advantaged accounts first before putting money into a taxable brokerage account. After all, why pass up a subsidy from Uncle Sam that makes saving easier?

The contribution limits for tax-advantaged accounts for 2023 are:

$22,500 for a 401(k) for those under 50 and an additional $7,500 for people 50 and over$6,500 combined limit for traditional and Roth IRAs for those under 50 and an additional $1,000 for people 50 and over

If you have maxed out these accounts and claimed all of the related tax breaks available, then it can make sense to put extra money into a taxable brokerage account to make even more of your wealth work for you.

When you’re investing for something other than retirement

If you are not investing for retirement, you will likely need to put that money into a taxable brokerage account (except in limited cases such as when you are eligible to contribute to a health savings account).

See, tax-advantaged accounts are typically limited to retirement plans and there are restrictions on when you can take your money out without penalty. If you want to invest and access your money on your own schedule rather than when the government says you can, a taxable brokerage account is the way to go.

When you want more investment options

There are some limitations on what you can do in tax-advantaged accounts.

The typical 401(k) offers a limited number of investment options, such as around a dozen or fewer funds you can put money into. IRAs offer more choices since you can usually invest in almost any assets the brokerage account offers, but there are still some extra limits in most cases. For example, you may not be able to trade all options strategies or trade on margin within an IRA (which means you borrow against the value of your equities to get more money to trade).

If you want to execute any investment strategy you want, a taxable brokerage account is usually your only choice.

If you do decide to invest in a taxable brokerage account, remember that you pay taxes on dividends and when you sell. On the positive, when you sell assets, you’ll be taxed at a lower tax rate if you own your assets for longer than a year. So don’t be afraid of a taxable account if investing in one is the right move for you.

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