Tax strategies come into play a lot in retirement planning. Retirees, or future retirees, want to keep as much money in their pockets as possible, and strong tax planning can do just that. When dealing with non-IRA accounts, such as a brokerage account, you’ll even receive a 1099, which takes a lot of people by surprise.
We’re going to walk you through a strategy that will outline taxes on brokerage accounts.
Taxes on Brokerage Accounts or Non-IRA Accounts
An IRA is the ideal way to not have to pay taxes, but these accounts are limited. Most people will have a brokerage account of some form created to leverage other financial investments. Understanding how a brokerage account is taxed is the first step in really understanding how these taxes work.
How Taxes on a Brokerage Account Work
When you have a brokerage account, whether it be Charles Schwab, TD Ameritrade or others, taxes always work the same. Brokerage accounts are often opened when you have money in the bank that really isn’t working for you.
You want to make this money grow, so you open a brokerage account and start investing in stocks, mutual funds and other financial vehicles.
As the money grows, you’ll have gains.
With brokerage accounts, or a non-qualified account, you’ll be paying taxes on the gains in the account. Let’s assume that you put $100,000 into the account and now you have $200,000 in the account, or $100,000 in gains.
There are a few things that can happen here in terms of taxes:
- If dividends are paid and then reinvested, you’ll still receive a 1099, which means you’ll have to pay taxes on these dividends even if you simply kept investing the money you were paid out.
- If you own stock and then sell it, you’ll generate a taxable gain on the sale of the stock. There are two main ways that these gains will be taxed:
- Short-term: If you hold the stock for less than a year, you’ll pay a short-term capital gains tax, which is in your income category.
- Long-term: If you hold your stock for a year and a day, or longer, you fall into the long-term capital gains category. This is favorable, right now, because you’ll pay a lower tax rate. You can view the tax rate on the IRS’ website, but as of right now, you would be taxed at a rate of 15% if your taxable income was $100,000.
We have a lot of clients who are trying to secure their retirement, and they may not want to sell off a stock that they held for a long time due to the tax bracket that they would fall into. This is where it can get tricky for a lot of people when trying to figure out the best time to sell.
There are pros and cons to investment management.
Positives and Negatives with Investment Management
Investment management will often turn into managing risks or taxes. For example, let’s assume that you don’t want to pay taxes on your Tesla holdings, and the stock is booming. You hold on to the stock for years, and natural market fluctuations occur.
Your stock holdings may have been worth 30% more three years ago, but you wanted to avoid paying taxes, so you didn’t sell.
In this case, you managed your taxes rather than your investment and the risk is that the stock went down. You’ll still have to pay taxes if and when you sell your holdings, and you lost significant value in the process.
It’s not an easy conversation to have because no one wants to pay taxes, but there’s no way to avoid them completely.
You need to decide:
- Do you want to protect your investments?
- Do you want to shelter against taxes?
We deal with this scenario a lot, and it “sounds” like it actually goes against what we’ve said in the past. But you have to keep reading because this is a strategy that works well if you’re stuck debating on what to do with your brokerage account taxes.
What’s the strategy? A variable annuity.
Yes, we did an entire episode on variable annuities, and we don’t like them personally. Why? You’ll be paying fees of 3% to 5% per year, but then you have to pay additional fees on top of this.
We still wouldn’t put IRA money into an annuity because it doesn’t make sense.
Wait! Is There Really an Option in the Variable Annuity World?
Yes, even though we’ve given you a bunch of negatives to think about with these variable annuities, this is one of the rare circumstances where they may have some benefit. We’ve found a positive in variable annuities when you don’t want to pay capital gains taxes.
Your goal is to save on taxes and not have to pay taxes on the brokerage account. We want to be able to alleviate the tax gain while protecting it, too. The simple plan is to put your money into a tax-sheltered product like an annuity.
In this case, you can:
- Avoid surrender charges
- Avoid having to pay commission
- Liquidate the fund immediately
The only thing that you will have to pay is a $20 monthly fee. You only need to think about taxes when you make a withdrawal, which can be 10, 15 or even 20 years from now. You can do everything that you can with a brokerage account with this variable annuity.
For a small $240 fee a year with this particular annuity, you can avoid having to pay short-term capital gains or when you need to make withdrawals.
The account can even have beneficiaries that you leave the account to if you die.
If you’re interested in this type of account, please contact us to find out whether it’s a good option for you. Again, not all annuity accounts work in the way that we described above, so this is a special option that we’re using with our clients.