An underappreciated piece of your financial plan
This account type can provide additional flexibility with your finances
Good Wednesday morning!
I’ve written before about multi-tools I own and use like Evernote, a Swiss Army Knife, and a Leatherman Skeletool:
These aren’t always the best tool for a specific task I’m working on, but they’re amazingly adaptable and flexible in a variety of situations.
In the article above, I was referring to a “broadly diversified portfolio of global companies” as a financial multi-tool.
Today, I’d like to introduce you to another…
Let’s start with all the things this financial multi-tool can’t do:
No tax deduction for contributions
No tax-deferred or tax-free growth
No special treatment if funds are used for qualified medical expenses (like an HSA)
No catch-up contributions if you’re 50+ years of age
While you’re probably wondering why you should consider what sounds like an underwhelming account, now let’s cover some of it’s benefits:
While not technically tax-deferred, it can grow in a very tax-efficient manner with the right investment strategy
You can utilize the funds anytime you need to (you don’t have to wait until age 59.5 or later)
While I DO NOT recommend this, you can borrow against your investments tax-free
Money taken out of this account isn’t subject to ordinary income taxes like an IRA or 401k
If you leave this account to non-spouse heirs, they receive a “step-up in cost basis”
You can use the funds in this account for anything… education, retirement, healthcare, and more
If you haven’t deciphered what I’m referring to, it’s the plain-vanilla brokerage account.
While many people rightly prioritize saving into 401k, IRA, and other retirement accounts, I would encourage you to also consider saving into a brokerage account.
Personally, I have a both 401k as well as a joint brokerage account with Elizabeth.
And we actively save into both of them.
But why?
Let’s talk about flexibility and optionality…
If you need funds for a purchase or unanticipated home repair and you’re 57 years old, you have a couple of choices:
take funds out of your 401k or IRA and pay a 10% penalty (because you’re not yet 59.5 years old) plus pay income taxes on the remainder
borrow funds from your 401k (not a good idea because you’re hollowing out equity that can grow for you in the future)
access funds from a retirement account via Internal Revenue code 72(t) - lots and lots of hoops to jump through on this one and you have to set it up for a minimum of 5 years
Use home equity via a Home Equity Line of Credit or a cash-out refinance
But let’s assume you’re not scrambling to cover a surprise home repair expense.
Let’s talk about a relatively straightforward path to retirement.
If you retire prior to age 59.5, you’ll run into some of the same issues we just highlighted.
So what if you retire at 65?
This is where the flexibility of a brokerage account can really shine…
Because if you don’t have every dollar of your retirement savings in tax-deferred retirement accounts like IRAs and 401ks, you have A LOT more control and choice over your income taxes.
If you’ve built your nest egg entirely through tax-deferred retirement accounts, good for you!
You’re way ahead of many folks who have little-to-no savings to speak of and sadly, can’t even cover a $400 emergency expense.
But if you’re still accumulating savings for the future and you have the ability to redirect some of your savings into a brokerage account, you might ultimately be glad you did.
Let’s say you have $2 million saved across IRAs and your 401k.
That’s $2 million of future taxable income.
But if you have $1.5 million in IRAs and 401ks and another $500,000 in a brokerage account, you still have $2 million you can utilize for your retirement income, but you’ve already paid income taxes on the funds that went into your brokerage account.
Which means you can use your brokerage account to cover part of your retirement income while also evaluating the option to start taking money out of your retirement accounts sooner and in smaller amounts.
This could spread out the income tax liability on these funds over more years while also reducing the potential tax bomb lurking down the road once you have to start taking money out of retirement accounts due to RMDs.
I scratched the surface of this entire idea back January of last year:
Let me know if you’re interested in this concept of utilizing different “tax buckets” of money to give you more flexibility and tax control when it comes to your retirement income planning.
Also, the brokerage account isn’t just a tool to help with retirement income…
More than once, I’ve recommended using a brokerage account instead of - or in addition to - a 529 college savings account.
While a brokerage account doesn’t have all the potential tax benefits of a 529, you can capture a lot of the tax benefits if you invest tax-efficiently. And you don’t have to worry about unused funds getting “trapped” in a 529 account that can’t be used for non-education expenses without penalties and taxes.
Plus, you maintain control and use of the funds if something comes up before your child or grandchild heads off to college.
I can share more about utilizing a brokerage account in your retirement planning including some client scenarios and corresponding numbers if you’re interested.
Just know that any savings - regardless of the account type you’re using - is better than no savings.
But it might worth including some brokerage account savings in your retirement planning.
Hit reply or leave a comment and let me know what you think.
Links & Things
Here’s an easy-to-read list from Kevin Kelly that serves as an informal follow up to his 2023 book Excellent Advice for Living:
There’s some golden nuggets in his list. Let me know which one(s) resonate most with you.
And here’s a worthwhile read for you, your family, and friends from Wired magazine:
This article covers the basics, but advances in Artificial Intelligence make it increasingly easy to copy and use another person’s voice and this can be weaponized to take advantage of folks. We’ll all need to be more vigilant and skeptical in the future.
Finally, after reading last week’s essay on balance, friend and reader Brian replied with this wonderful John Wooden quote:
“Next to love, balance is the most important thing.”
Couldn’t agree more, Brian. And thanks for the great quote!
How am I doing?
I love hearing from readers, and I’m always looking for feedback. How am I doing with the Wealthcare for Women Weekly? Is there anything you’d like to see more or less of? Which aspects of the newsletter do you enjoy the most?
Hit reply and say hello - I’d love to hear from you.
And as always, thanks for reading.
Until next Wednesday,
Russ