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Taxes

Should You Trade Your IRA or Your Brokerage Account?

Michael Atias
Director of Tax Services, Instructor

One of the most common questions traders ask is should they be actively trading their retirement account or maybe trade their taxable brokerage account instead. As always, there are advantages and disadvantages to trading each type of account.

Should you trade a retirement account or brokerage account?

Trading Your Retirement Account

The biggest advantage for trading in your retirement account is the ability to defer your tax payments on gains earned. This allows you to grow your account at a faster pace than a taxable account. If your goal is to build wealth and not generate additional cash flow, then a retirement account is a good vehicle. Keep in mind that you cannot withdraw funds from your retirement account prior to age 59 ½ without paying a 10% penalty.

If you are at a higher tax bracket it may make perfect sense for you to trade your retirement account. You will be able to deduct the contributions made to your retirement account from your taxable income and create an immediate tax savings. For example, if you are married, over 50 and your adjusted gross income is $250,000, by contributing the max amount of $24,000 per year you will reduce your federal tax liability by approximately $8,000. This savings represents an immediate return on investment of 33%.

If your tax bracket at retirement is lower than in your working years you could withdraw the funds at a lower tax bracket and further increase your savings. If you want to create a tax-free income stream from the moment you turn 60, then a Roth account will provide you just that.

The disadvantage of trading your retirement account is that you cannot trade as freely as a taxable account. Here are a few limitations:

  • Schedule a Free Tax ConsultationShorting stocks, for example, is virtually impossible in an IRA or 401K.
  • You cannot use margin in a retirement account.
  • You lose the favorable 60/40 tax split when trading futures.

Trading a Taxable Account

When trading a taxable account, the opportunities to trade are almost limitless in comparison to a retirement account. You can trade options in all formats: covered calls, naked puts, straddles, strangles, iron condors; you name it. You can short stocks, trade on margin, trade forex, futures commodities and more. This allows traders to have full freedom in trading the asset class they want and the strategy they prefer.

Trading through a taxable account also allows you to potentially qualify as a trader in securities. This special tax status is different from the default investor status in that it allows you to claim all expenses associated with trading. It allows you to treat your trading activity as a business and use different strategies to reduce your taxable income.

Of course, the biggest disadvantage is that you will need to pay taxes every year on the gains you make. This could slow down the pace at which you can grow your trading account.

The Bottom Line

You don’t have to choose between a retirement account and a brokerage account.Tweet: Don’t choose between trading a retirement and brokerage account. //ctt.ec/6vHLQ+ You could trade both and get the best of both worlds. The smart way of doing this is to trade securities (stocks, options, mutual funds, etc.) in your retirement account. Securities are subject to ordinary income tax rates (when held less than a year) and to the wash sale rules as well. When trading them in a retirement account we no longer should worry about wash sale rule reporting and the taxes will be paid only when we take distribution.

In our taxable accounts, we should trade futures and forex and take advantage of the favorable 60/40 split and the ability to write off our expenses (if we qualify as a trader in securities).

For a customized tax plan that fits your needs and goals please reach out to us directly, //www.otataxpros.com/contact.aspx.

Disclaimer
This newsletter is written for educational purposes only. By no means do any of its contents recommend, advocate or urge the buying, selling or holding of any financial instrument whatsoever. Trading and Investing involves high levels of risk. The author expresses personal opinions and will not assume any responsibility whatsoever for the actions of the reader. The author may or may not have positions in Financial Instruments discussed in this newsletter. Future results can be dramatically different from the opinions expressed herein. Past performance does not guarantee future results. Reprints allowed for private reading only, for all else, please obtain permission.