Question: Roth IRA or investment account?

From Julie on the Marketplace Money Facebook page:

What are the Pros and Cons when looking at opening a ROTH against an online investment account? Are dividends in a ROTH taxed at a different/better rate than an investment account? Julie

Response:

First, let’s define a Roth-IRA. It’s a retirement savings account. The contributions into a Roth are made with after-tax dollars. The money compounds—including dividends and capital gains-- free of taxes. The retirement savings twist with a Roth is you won’t pay taxes on any gains when you withdraw money during retirement. The maximum contribution into a Roth for 2013 is $5,500, although you can put in less.

You can’t take any investment gains or earnings out of your Roth before age 59 ½ without paying ordinary income taxes on the withdrawal, plus a 10 percent penalty. However, in a pinch you can withdraw the amount of your contributions—not any investment gains--tax-free and penalty-free. Most financial institutions will set up a Roth for you. You can invest the money in a wide variety of investments, from certificates of deposit to equity mutual funds to exchange traded funds.

Now, let’s turn to an investment account, also known as a brokerage account. It’s a much broader category than a Roth. There is no limit to how much you can put into an investment account except the amount of your savings. Investment accounts allow you to take your money and buy all kinds of securities, such as stocks, bonds, commodities, mutual funds and so on. You can open up an investment account at all kinds of financial institutions, including online firms. (The online option tends to be the most cost effective.) You can have an investment account in your Roth or any other retirement savings plan. You can also have a taxable investment account. You’ll pay taxes on dividends, realized capital gains, and interest payments with the taxable account.

So, the answer to your question depends on what it is you’re trying to accomplish. You can open an online investment account that is a tax-sheltered Roth. But an investment account doesn’t have to be a Roth.

A Roth is a good option to consider if you want to save for retirement. Otherwise, you can open up an online account and invest outside of retirement savings.

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