I have two brokerage accounts with Fidelity. One is for a future car purchase, and the other is for house down payment. I don’t plan on drawing from these investments for a few years. But, I still want to be able to access them before the traditional retirement age. Plus, I didn’t want to use a high yield savings account, which currently pays out 0.5% at Ally. That money needs to work harder than that.
Brokerage accounts make sense …
… if you want to invest your extra cash and you don’t need them for a couple of years. If you sell the investment within a year, you will be subject to short term capital gains tax. This is equal to your ordinary income tax. If you hold your investments for longer than a year, they will be subject to long term capital gains tax. Long term capital gains tax is favorable since it’s 0% for withdrawals up to $80,800 in 2021 for couples filing their taxes as married filing jointly. There are also no withdrawal penalties as with retirement accounts, and you can contribute as much as you want to.
Before you open that brokerage account …
… you want to make sure you have your finances in order. This means 3-6 months of emergency fund savings in a high-yield savings account; no consumer debt (e.g. credit cards); funding your 401K to take advantage of any company match (which leads to 100% return of your investment!); and fully contributing to an IRA, be it traditional or Roth. Then start thinking about investing in a brokerage account.
Foreign nationals and investing
If you are a foreign national in the US, brokerage accounts might make more sense than IRAs. You’ll have an easier access to your investments since there are no withdrawal penalties or strict age rules. Please be aware of potential taxes you will need to pay once you withdraw (either to the US or your home country) and on dividend income.
Perform a deeper analysis about whether it makes sense to invest in brokerage or tax-advantaged accounts like Roth IRAs. This of course, depends if you plan on working in and immigrating to the US. Check out this podcast by Personal Finance for PhDs about investing as an international student, for example.
How to open a brokerage account
If you invest with Fidelity, this is easy-peasy. Log in to your fidelity account, click on “open account” and choose “brokerage account”. The next step is to fund the account. This can be done using bank transfers, for example. The money will be transferred to your core account. After it’s transferred in, which might take a day or two, you need to then invest the money.
What to invest in
There’s an issue with brokerage accounts: they’re taxable. So, there are investments that are better in a tax-advantaged account vs a brokerage account. See this article on Bogleheads about tax efficient fund placement.
I’ve invested in FZROX and recently in VT (Vanguard total world stock index fund ETF) in my brokerage account. Expense ratio for FZROX is 0% while VT is 0.08%. One issue with FZROX is that if I wanted to move to a different brokerage firm, I can’t transfer FZROX since they’re a Fidelity security. So I will have to sell this in order to liquidate the account. VT, on the other hand, is transferable. For future investments in my brokerage accounts, I will likely fund only the VT.
You can also invest in individual stocks, bonds, and other securities. But, I like the diversification that comes with the index funds listed above. I also choose to reinvest my dividends.
With that said, happy investing!
