Which Retirement Accounts and Investment Accounts Do You Need? – Fluid Ad Test Post [Forbes Review]

People pursue more than one goal when they invest. Some may prioritize growing a home down payment, others might want to focus on building college funds for their kids, and everybody needs to be saving for retirement. Whatever the goal, there’s always one common denominator: building wealth.

Investment accounts and retirement accounts your key tools for building wealth. Getting to know all your options when it comes to investment and retirement accounts is your first job when it comes to your personal finance journey. This primer provides and overview of all the major account types, and should help you determine which are right for you and your goals.

Taxable Brokerage Accounts

• Eligibility: These investment accounts are available to anyone 18 years of age or older. Legal adults can open custodial brokerage accounts for investors under 18.
• Investment Options: It depends on your account provider, but generally you can invest in securities like stocks, bonds, exchange-traded funds (ETFs), and mutual funds.

You can invest on your own with a traditional brokerage account. Brokerage accounts are referred to as taxable investment accounts because they lack the special tax advantages of certain retirement account types, such as a 401(k) or an individual retirement account (IRA). There are two main types of taxable brokerage accounts: cash accounts and margin accounts.

Cash Accounts

A cash account is probably the type of investment account you think of when you think about investing. You deposit money into a cash brokerage account, and then you use the funds to buy securities.

Cash accounts can meet the needs of most investors, but they do have certain limits that may be unappealing to more advanced investors. You need a different type of brokerage account to trade on margin or short stocks.

Margin Accounts

Margin accounts work the same as cash accounts, with two big advantages. They allow you to borrow money from your bank or brokerage to buy securities, a process called buying on margin, and they enable you to short trade, a risky speculative form of investing in which you bet on stocks and funds losing value—instead of gaining it.

In margin trading, margin accounts let you leverage your money with margin loans, which can effectively double the amount of securities you can buy. The cash and securities in your account serve as collateral for the loans, and you pay interest. Because you’re dealing with borrowed money, margin investing opens you up to much steeper losses than cash investing.

In the worst case scenario, if an investment made on margin dropped in value to zero, you’d lose all of your money and then still owe your lender what you borrowed plus interest. For this reason, only advanced investors should pursue margin trading.

The other advanced investing technique margin accounts enable is short trading or short selling. With short selling, you borrow securities from other investors and institutions and then sell them, in the hope you’ll be able to repurchase and then replace them at a lower price. Because of the great potential for loss, federal law requires you to hold 150% of the value of what you borrow in a margin account as collateral.

Employer-Sponsored Retirement Accounts

To recruit and retain top talent, many companies offer employer-sponsored, tax-advantaged retirement investment accounts. In fact, the Society for Human Resource Management reports that 93% of employers offer a retirement savings plan.

If your employer is not among that 93%, you’re self-employed, or you want to set aside even more, you can save for retirement in other forms of tax-advantaged retirement accounts, which we describe below. Depending on your employer, you may have one or more of the following retirement account options available to you:

401(k) Retirement Accounts

• Eligibility: If your employer offers a 401(k) plan, it must be available to all employees 21 years of age or older who have worked for a company at least a year.
• Investment options: Your employer is typically the 401(k) plan sponsor and is responsible for choosing the plan’s investment options. You may be able to invest in mutual funds, company stock, and annuities.

With a traditional 401(k) plan, you make contributions to your retirement account with money that hasn’t been taxed yet. Your investments grow tax-free until you withdraw them in retirement. Then, they’re taxed at your current income tax rate.

Some employers will match a portion of your contributions, up to a percentage of your salary. Your company may match 100% of your contributions, for example, up to 5% of your salary. If you earned $50,000 per year and contributed $2,500 to your 401(k), your employer would add the full 5% ($2,500) to your account. If your employer offers a 401(k) match, you generally should make sure you’re contributing at least enough to get the full match.

An important note: Not all matching 401(k) contributions are immediately yours. About half of employers require some amount of “vesting” before contributions become fully yours. This means you have to stay at the company a set amount of time before you get to keep all of your employer match.

The 401(k) contribution limit for 2020 is $19,500. Those who are 50 years of age or older can make catch-up contributions of $6,500.

Roth 401(k) Retirement Accounts

Roth 401(k) investment accounts are broadly similar to traditional 401(k) accounts but have different tax advantages. Contributions to a Roth 401(k) are not tax-deferred. Instead, you make contributions with money that’s already been taxed.

Your investment earnings grow tax free, and after age 62 ½, you can withdraw funds from your Roth 401(k) without paying income taxes as long as you made your first contribution to the account at least five years before.

The Roth 401(k) contribution limit for 2020 is $19,500. If you’re 50 years of age or older, you can make catch-up contributions of $6,500 per year.

403(b) Retirement Accounts

• Eligibility: If an employer offers a 403(b) plan, these investment accounts must be offered to all employees who work 20+ hours/week.
• Investment options: Depending on your employer, you may be able to invest in mutual funds and annuities.

403(b) investment accounts operate similarly to 401(k) accounts. However, these plans are offered by non-profit organizations like churches, public service agencies and universities. Both traditional or Roth 401(b) accounts are available, each of which offers the same benefits as their 401(k) counterparts.

As of 2020, the contribution limit for 403(b) plans is $19,500. Employees who are 50 years of age or older can make catch-up contributions of $6,500.

SIMPLE IRA Retirement Accounts

• Eligibility: Small businesses that don’t have other retirement plan options can offer these investment accounts.
• Investment options: Investment options can include stocks, bonds, and mutual funds.

With a Savings Incentive Match Plan for Employees (SIMPLE IRA), the employer is required to make contributions to retirement investment accounts on behalf of their employees. The employer can choose to do one of the following:

• Match employee contributions up to 3% of their compensation.
• Contribute 2% of employees’ salaries to the plan, regardless of whether the employee contributes.

SIMPLE IRAs are not available as Roth accounts. With a SIMPLE IRA, the employee is always 100% vested, meaning you always have complete ownership of the total balance of your retirement account.

In 2020, only the first $285,000 of employee salaries can be considered for the employer contribution percentage.