At Core Capital Management and Research, we work with discerning individual investors to develop a strategy tailored specifically to you. As we continue to manage your account, we provide you with concierge-style service and help you maintain discipline and objectivity in all of your investment decisions. Our clients trust us to manage a variety of assets they may have. Often understanding all the different options for investment accounts can be daunting. Many names are used for the same type of account and different accounts have different taxation consequences. This article will help you navigate the various account options.
A brokerage account is much like a traditional bank account most people are used to. You can move money (transfer) in and out as you need it just like a traditional bank account. A brokerage account also gives you access to buying investments in the stock market. So your brokerage account will have a mix of cash, stocks, mutual funds and etfs. A brokerage account may be referred to as a “taxable account” because your gains on any stocks sold are taxed at the end of the year.
Individual and Joint Accounts
A brokerage account, just like a bank account must be registered to an owner. A personal brokerage account may be registered to either an individual, (example – Mr. John Smith) or registered to more than one person, usually a husband and wife, (example – Mr. John and Jane Smith), who own the account “jointly.” The money in an individual or joint account can be withdrawn or added to freely.
Unlike brokerage accounts which are referred to as “taxable,” in order to urge people to save for retirement, retirement accounts have a different set of tax and withdrawal rules. The IRS sets limits on additions for each type of account and rules on when money can or must be withdrawn and how each account is taxed at the time of withdrawal. In a retirement account, annual gains are not taxed. There are several types of retirement accounts:
A traditional IRA (Individual Retirement Arrangement) is a way to save for retirement with tax advantages. You can make contributions, which are tax deductible, to your IRA annually depending on your filing status and income (For 2021, the limit to all of your IRAs (traditional and roth combined) is $6,000 or $7,000 if you are over 50). Traditional IRAs are not taxed annually until you begin taking distributions. The IRS allows normal distributions after you are 59 ½ years old. Normal distributions are taxed as ordinary income. If you take a distribution before 59 ½ years old, the distribution is taxed as ordinary income and you have to pay an additional 10% penalty.
A “rollover” IRA is identical to a traditional IRA except the money was once in another type of retirement account like a 401k. The money was “rolled over” to an IRA to be managed by the owner. By creating the account as a “rollover IRA” you reserve the right to “roll it over” again back into a new 401k if your company allows it. A rollover maintains the tax status of the account and does not create a taxable event for the owner.
A Roth IRA is different from a traditional ira in that contributions are not tax deductible and when you take the money out, the distributions are tax free. A Roth IRA gives you the option to pay taxes up front. Roth IRAs have limits to contributions based on your income and your filing status.
A SEP (Simplified Employee Pension Plan) allows employers to contribute to IRAs for employees (even self employed). SEPs are a low cost alternative to a 401k and do not require all the administrative and reporting that a 401k requires. Typically a self employed individual can utilize a SEP to put aside a large amount in retirement each year as a deduction against his or her salary. The contributions to a SEP are limited to the lesser of 25% of the employees compensation or $58,000 (Year 2021). So an individual business owner making more than $230,000 can deduct $58,000 from their income and put it into a SEP retirement account to grow tax deferred.
A 401k is a retirement plan set up by an employer for the benefit of all the employees. 401k plans can be complex and allow for a combination of employee salary deferrals, employer elective contributions based on profits, and non-elective (mandated) employer contributions. Employers have the flexibility to construct a 401k to meet their desired needs whether it is to highly compensate employees or direct a larger share of the profits to the business owner. A 401k has many reporting and administrative requirements that necessitate a professional recordkeeper and administrator.
A trust account is a brokerage account that is managed by a “trustee” for the benefit of a “beneficiary.” The trustee must follow the agreed upon terms of the “trust document” to determine how money may be managed and distributed etc. A trust account is a legal arrangement binding all parties to the rules of the account. A trust can be used to manage the transfer of money between generations, avoid lengthy probate processes upon death, or manage how a minor or beneficiary may utilize a gift of money given to them.
A business account is a brokerage account registered to a company, regardless of how the company is organized (i.e. LLC, S-Corp, C-Corp).
An endowment is a donation of money to a nonprofit organization that allows the organization to use the profits of the investments for specific purpose. An endowment is usually designed to keep the principal amount untouched while the investment income is used to support the charitable giving. Endowments should generally have an investment statement and a spending statement to guide the board of the non-profit on exercising the funds.