Are Brokerage Accounts Taxable? | The Motley Fool (2024)

Picking good investments is only half the battle when investing and growing wealth. The other half is investing in a tax-efficient manner so you keep as much of your gains as possible. Depending on the type of brokerage account, income from capital gains, dividends, and interest may or may not be taxable.

Below, I'll explore the tax issues with investing so you know what to expect when tax time rolls around. I'll also talk about some brokerage accounts that help you avoid taxes on brokerage account investments.

Tax-advantaged brokerage accounts

Some brokerage accounts, such as specific types of retirement accounts, provide protection against taxation. Many people open individual retirement accounts (IRAs) at brokerage firms in order to avoid taxes on brokerage account investments until withdrawal, or forever.

  • Tax-deferred accounts. A traditional IRA is one of the most common types of tax-deferred brokerage accounts. You contribute pre-tax dollars to a traditional IRA, and then pay ordinary income taxes on the money you withdraw in retirement. You might use tax-deferred accounts to benefit from tax arbitrage. For example, let's say you're currently in the 24% marginal tax bracket, and expect to be in the 12% marginal tax bracket at retirement. It makes sense to use a traditional IRA to avoid paying 24% on your contributions now and pay just 12% on your withdrawals later. (Most 401(k)s, 403(b)s, and other employer-sponsored accounts are also tax-deferred accounts.)
  • Tax-free accounts. A Roth IRA is one of the most common types of tax-free retirement accounts. You contribute post-tax dollars to a Roth IRA, and as a result, any of your withdrawals in retirement are not taxed. Even if you had $5 million of gains in a Roth IRA, you could withdraw them without paying a dime in taxes at retirement. Importantly, you'll need to pay attention to Roth IRA income limits. These may rule out some people from using a Roth IRA to save for retirement. It's also important to note that some employer retirement plans offer Roth options, such as a Roth 401(k).

Regardless of whether you choose Roth or traditional IRAs, investing in a tax-advantaged account gives you a huge advantage: You are only taxed on withdrawal (traditional IRAs) or before you make a contribution (Roth IRAs). In contrast, in a taxable brokerage account, you'll owe taxes on brokerage account earnings at every step.

Roth vs. traditional IRA

Deciding between a Roth or traditional IRA can be tricky because you need to predict a number of different variables. To make a perfect decision and avoid taxes on brokerage account earnings, you'd need to know your income, marginal tax bracket, and investment returns, now and into the future. If you're five years away from retirement, you can project these kinds of things with relative precision. If you're 40 years from retirement, it's not so easy.

A common rule of thumb is that Roth IRAs are better suited to younger investors as an investment account for retirement. This is because they're likely to earn more as they age, and could pay higher taxes in retirement than they do in the present.

Roth IRAs also have some other important advantages, like the ability to withdraw your original contributions (but not any investment gains) at any time for any reason without penalty. This is helpful if you need to withdraw money for an emergency, for example. Roth IRAs don't have any required minimum distributions (RMDs), while traditional IRAs require you to start taking out money at age 73, according to current law.

Soon-to-be retirees are likely in their prime earning years and may be paying higher taxes now than they will in retirement. As such, a traditional IRA might suit them better. Some people divide and conquer, putting part of their savings in a Roth account and another part in a traditional account so as to diversify their tax exposure. There isn't a one-size-fits-all answer for how to approach Roth vs. traditional accounts.

If you're new to investing, the main takeaway is that you're likely to come out ahead by deferring or avoiding taxes on brokerage account investments. You can do so with a traditional IRA or a Roth account. Plus, tax-advantaged accounts save you some trouble at tax time compared to a taxable brokerage account.

Taxable brokerage accounts

An ordinary brokerage account that is not a retirement account is a taxable investment account. If you make money because your investments go up in value, or because your investments pay you dividends or interest, this income will be taxed. The taxes on brokerage account income depends on the type and source of the gains or investment income you earn. However, unlike with retirement accounts, you can withdraw from your taxable brokerage account whenever you want, without any penalties.

Capital gains

The most basic way to make money investing is the old-fashioned way: by purchasing a stock, fund, or other investment and selling it later for more money. You know the mantra -- "buy low, sell high."

Money you earn from capital gains is taxed at different rates depending on how long you held the investment. Gains on investments you held for one year or less before selling them are "short-term capital gains." The taxes on brokerage account short-term gains are taxed as ordinary income.

Holding an asset for more than one year gets you favorable tax treatment on the gains when you sell. For instance, if you buy a stock for $10, hold it for 18 months, and then sell it for $15, you will have $5 of long-term capital gains. Taxes on long-term capital gains can range from 0% to 20% depending on your tax bracket. But they're almost always lower than what you'd pay on short-term capital gains or ordinary taxable income. This is to reward people for investing for the long haul rather than speculating on short-term price movements.


Companies often pay out a portion of their earnings in the form of cash dividends to their shareholders to reward them for being part owners of a profitable business. Dividend income from your stock and mutual fund is taxed in two different ways. How dividends are taxed depends on the type of dividend you receive.

  • Qualified dividends. The vast majority of dividends paid by public companies are qualified dividends. This means they qualify to be taxed as a long-term capital gain. There are certain rules about how long you must own a stock to benefit from the lower tax rate on qualified dividends. But the key thing is that qualified dividends are taxed at lower, long-term capital gains tax rates.
  • Unqualified dividends. Some companies do not pay corporate taxes on their profits, and thus the dividends they pay to investors are "unqualified dividends" that are taxed as ordinary income. This generally applies to real estate investment trusts (REITs), master limited partnerships (MLPs), and business development companies (BDCs).

Interest income

You may earn interest on any investment, and you'll generally pay taxes on brokerage account interest income. This could be from a bond, certificate of deposit, or just from holding cash in your brokerage account, the income is generally taxed as ordinary income. There are two common exceptions to this rule, however.

  1. U.S. Treasuries. If you lend money to the U.S. government by purchasing U.S. Treasuries, the income you earn is taxed at the federal level, but it is not subject to state or local income tax.
  2. Municipal bonds. Interest earned from municipal bonds is generally exempt from taxation at the federal level. In many cases, it's also exempt from state and local taxes, resulting in no tax liability for the investor.

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When you owe taxes on a taxable brokerage account

Any income you earn in a taxable brokerage account is taxed when the income is realized. If you sell a stock at a gain, that gain is taxable. If you earn interest on your cash balance, that interest income is taxable in the tax year in which it was received.

Many people falsely believe that any gains or income earned in a taxable brokerage account are not taxable until withdrawn, but that isn't the case. You'll pay taxes on brokerage account income in the tax year you earn it. What matters for taxable brokerage accounts is when the money is earned or gains are realized, not when it is withdrawn and enjoyed.

Most investors use taxable brokerage accounts only if they have already maxed out all of their tax-advantaged investment opportunities. For example, if you are currently maxing out a 401(k) at work, and an IRA you set up yourself, you might then consider opening a taxable brokerage account. This might allow you to save and invest even more money each year. If you're maxing out your 401(k), but haven't yet opened an IRA and want to avoid paying taxes on brokerage account earnings, an IRA is likely a better bet.

Are Brokerage Accounts Taxable? | The Motley Fool (2024)


Are Brokerage Accounts Taxable? | The Motley Fool? ›

Unlike 401(k)s, individual retirement accounts (IRAs), and 529 plans, brokerage account

brokerage account
A securities account, sometimes known as a brokerage account, is an account which holds financial assets such as securities on behalf of an investor with a bank, broker or custodian. Investors and traders typically have a securities account with the broker or bank they use to buy and sell securities. › wiki › Securities_account
s have no withdrawal restrictions or tax advantages. You fund your brokerage account with after-tax dollars. And you pay taxes annually on any realized capital gains, dividends, or interest earned in that account.

Are taxable brokerage accounts a good idea? ›

A taxable brokerage account is a great place for surplus savings if you've already saved as much as the IRS will let you into your tax-advantaged retirement accounts. You may even start putting money into your taxable brokerage before you max out your retirement savings.

What should I put in my taxable brokerage account? ›

Here are some of the key asset classes that make sense for most investors' taxable accounts:
  1. Municipal Bonds, Municipal-Bond Funds, and Money Market Funds.
  2. I Bonds, Series EE Bonds.
  3. Individual Stocks.
  4. Equity Exchange-Traded Funds.
  5. Equity Index Funds.
  6. Tax-Managed Funds.
  7. Master Limited Partnerships.
Jan 23, 2024

What is the biggest disadvantage of a brokerage account? ›

Cons of Brokerage Accounts
  • May Charge Fees. You are likely to encounter a variety of fees when you open a brokerage account and purchase investments. ...
  • They're Taxable. ...
  • They Involve Risk. ...
  • May Have Minimum Deposit and Balance Requirements.
Sep 16, 2023

Should you have more than $500000 dollars at one brokerage? ›

Is it safe to keep more than $500,000 in a brokerage account? It is safe in the sense that there are measures in place to help investors recoup their investments before the SIPC steps in. And, indeed, the SIPC will not get involved until the liquidation process starts.

Why use a taxable brokerage account? ›

Taxable Accounts

They offer fewer restrictions and more flexibility than tax-advantaged accounts such as individual retirement accounts (IRAs) and 401(k)s. Unlike an IRA or a 401(k), you can withdraw your money at any time, for any reason, with no tax or penalty from a brokerage account.

How much tax do you pay on a taxable brokerage account? ›

Capital gains

They're usually taxed at ordinary income tax rates (10%, 12%, 22%, 24%, 32%, 35%, or 37%). Long-term capital gains are profits from selling assets you own for more than a year. They're usually taxed at lower long-term capital gains tax rates (0%, 15%, or 20%).

Why are ETFs better for taxable accounts? ›

ETFs are generally considered more tax-efficient than mutual funds, owing to the fact that they typically have fewer capital gains distributions. However, they still have tax implications you must consider, both when creating your portfolio as well as when timing the sale of an ETF you hold.

Is a brokerage account the same as a taxable account? ›

But brokerage accounts are also called taxable accounts, because investment income within a brokerage account is subject to capital gains taxes. Retirement accounts (such as IRAs) have a different set of tax and withdrawal rules. They may be better for retirement savings and investing.

Should I hold SCHD in a taxable account? ›

If you have a huge capital gain in SCHD in a taxable account you will have to analyze how a sale would affect your overall tax picture. At a minimum, you might consider not reinvesting dividends and investing those dividends and any new money you have to invest in safer fixed income.

How much money is too much for a brokerage account? ›

Since you can expect a good return over time if you make informed choices, you can't really have too much money in your brokerage account. After all, you want as much money as possible earning the highest possible returns. This is different from, say, keeping your money in a high-yield savings account.

Should I keep all my money in a brokerage account? ›

If you've got a large chunk of cash, you might secure better returns outside of a brokerage account. You could lose money. If your money is swept into a money market fund, that cash won't be insured by the FDIC or SIPC. It's possible to lose money.

What is better than a brokerage account? ›

Brokerage vs.

A self-directed IRA or SDIRA offers the added advantage and flexibility of allowing you to invest in real estate (as investment property only). With IRAs, you'll generally have a minimum deposit requirement of $1,000 whereas many brokerage accounts have no minimums to get started.

What brokerage do most millionaires use? ›

Best Brokers for High Net Worth Individuals
  • Charles Schwab - Best for high net worth investors.
  • Merrill Edge - Best rewards program.
  • Fidelity - Best overall online broker.
  • Interactive Brokers - Great overall, best for professionals.
  • E*TRADE - Best web-based platform.
Mar 28, 2024

Where do billionaires keep their money? ›

Common types of securities include bonds, stocks and funds (mutual and exchange-traded). Funds and stocks are the bread-and-butter of investment portfolios. Billionaires use these investments to ensure their money grows steadily.

How much money is safe in a brokerage account? ›

To protect yourself from this worst-case scenario: Don't hold more than $250,000 of uninvested cash in your brokerage account. Keep any extra in your bank account until you want to make an investment. Split your investments so you have no more than $500,000 of stock in any one brokerage.

Do you pay taxes on a brokerage account if you don t withdraw? ›

How Are Brokerage Accounts Taxed? When you earn money in a taxable brokerage account, you must pay taxes on that money in the year it's received, not when you withdraw it from the account. These earnings can come from realized capital gains, dividends or interest.

Do I have to pay taxes on my brokerage account if I don t sell? ›

In many cases, you won't owe taxes on earnings until you take the money out of the account—or, depending on the type of account, ever. But for general investing accounts, taxes are due at the time you earn the money. The tax rate you pay on your investment income depends on how you earn the money.

Are withdrawals from taxable accounts considered income? ›

Key Takeaways

Withdrawals made from 401(k) plans are subject to income tax at your effective tax rate. During the years that they contribute, retirement savers enjoy a lower taxable income. Early withdrawals are subject to income tax and potentially a 10% early withdrawal penalty.

Would you prefer a fully taxable investment? ›

If the current income tax rate is less than 15%, the fully taxable investment will be selected because it will have a higher after-tax rate of return, compared to the rate of return on tax-exempt investment.

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