Jun 6, 2022
What is a Brokerage Account, and How Do I Open One?
A brokerage account is a taxable investment account you use to buy and sell securities, such as stocks, bonds, exchange-traded funds (ETFs), and mutual funds, through a licensed brokerage firm. You deposit money into your brokerage account, and your brokerage firm uses those funds to buy and sell securities on your behalf.
Whether you’re working with a real-life financial advisor, a robo-advisor, or you’re a self-directed online investor, you’re required by law to open a brokerage account to buy and sell securities. The application and approval process is often quick and straightforward, especially with an online brokerage, making it easier to start investing right away.
In this article, we’ll cover:
- Benefits of brokerage accounts
- The difference between brokerage accounts and other accounts
- How brokerage accounts work
- How to choose a brokerage account provider
- How to open a brokerage account
Benefits of using a brokerage account
A brokerage account opens the door to a wide range of options for investing your money and managing your portfolio. Depending on the brokerage firm you use, you can build a portfolio of many different types of investments, such as stocks, bonds, ETFs, real estate, commodities, and cryptocurrency.
Other benefits of a brokerage account include:
- You can invest as much money as you want
- You can buy more securities or sell them whenever you like
- You can invest in the securities and sectors that most appeal to you
- You can create an investing strategy aligned with your goals
- You may be able to get started with a small amount of money, depending on the requirements of your brokerage firm
The difference between brokerage accounts and other accounts
Brokerage accounts vs. savings accounts
A brokerage account is an investment account, not a savings account, and they differ in important ways.
- Risk: When you put your money into a savings account at a bank, it is held by the bank and insured by the Federal Deposit Insurance Corporation (FDIC). Investing, on the other hand, always involves the risk that you could lose money.
- How your money can grow: Money in a savings account may earn interest, depending on the rate offered by the bank. Funds in your brokerage account are used to buy securities that will hopefully increase in value or earn dividends, allowing you to earn a return on your investment when you sell.
- Time horizon: Savings accounts are often used for short-term financial goals, such as things you want to buy within five years. They can also be a good place to set aside money in case of emergency. Investing with a brokerage account is generally used for mid- to long-term goals, as a longer time horizon gives you a better chance of riding out the market’s inevitable ups and downs.
Brokerage accounts vs. retirement accounts
Brokerage accounts and tax-advantaged retirement accounts, like a Roth or traditional individual retirement account (IRA) or a 401(k), are different types of investment accounts. The way they function, however, is quite different.
- Flexibility: Brokerage accounts give you total control over how much you invest, the securities you invest in, and when you can withdraw your money. Retirement accounts have strict rules regarding how you can invest your money.
- Time horizon: Retirement accounts are strictly for long-term goals; you generally can’t access your money until age 59 1/2 without paying a penalty. Brokerage accounts, on the other hand, can be used to save for retirement or for mid-term financial goals.
- Employer matching: If you have an employer-sponsored retirement account, like a 401(k) or certain kinds of IRAs, your employer may match some of the money you contribute. That’s not the case for brokerage accounts.
- Tax advantages: The trade-off for adhering to the restrictions of a retirement account is the potential for paying less in taxes. Brokerage accounts don’t give you any particular tax advantages. That said, it’s possible that you may pay a lower capital gains rate on what you earn when you sell securities from your brokerage account.
Brokerage accounts Retirement Accounts Investment type For mid- to-long-term goals (5+ years away but sooner than retirement) For long-term retirement savings Income limits No income limits
Income limits may apply (varies by account type)
Contribution limits No contribution limits Annual contribution limits (varies by account type) Investment options Wide variety of investment options
Restricted investment options
Tax advantages No tax advantages
Potential tax advantages
How brokerage accounts work
Once you open a brokerage account, you deposit money and use those funds to purchase securities. You create a portfolio of investments, and you tell the brokerage firm when you want to buy and sell your securities. Though the account is held by a brokerage firm, your assets remain yours; the brokerage simply engages in trading on your behalf.
Your brokerage firm may charge a variety of fees, such as management fees and fees for trading securities. You’ll also need to pay taxes on profits you earn through your brokerage account; taxes are usually paid at the end of the year when you file your income tax return. And if you decide to close your brokerage account, you’ll owe taxes on any returns you earn.
Types of brokerage accounts
There are two main types of brokerage accounts available: cash accounts and margin accounts. The difference between them is in how you purchase your investments and the amount of risk involved.
- Cash accounts: When you have a cash account, securities purchases are limited to the amount of cash in your account. If you have $1,500 in cash, you can only purchase up to $1,500 in investments. You are not allowed to borrow funds from your broker to pay for account transactions. Though your returns may be smaller, cash accounts usually provide a less risky, more straightforward way to invest.
- Margin accounts: This type of brokerage account allows you to borrow money from the brokerage firm to make investments, and the securities themselves become collateral for your loan. Margin accounts allow for more complex trading strategies and may have the potential for greater returns, but they are substantially riskier than cash accounts. You’re responsible for paying interest on the loan, and, if the value of your investment falls, the brokerage firm may ask you to pay back your margin debt immediately. Your brokerage also reserves the right to sell any of the investments in your portfolio at any time and without notice to cover an account deficit.
How to choose a brokerage account provider
To start investing, you’ll need to decide on a brokerage account provider. You have many options, from traditional brokerage firms to online or app-based brokerages.
To choose the right one for you, you may want to consider the following questions:
- Guidance: Are you comfortable coming up with your own investment strategy, or do you prefer professional guidance? Actively managed brokerage accounts usually include expert guidance from human advisors. Online brokerages may provide less hands-on advice, but often have robo-advisors that can match you with portfolio options aligned with your risk profile and goals.
- Investment options: What kind of securities do you want to buy? Most brokerages provide access to stocks, bonds, and funds, though the specific types of funds vary. You can also invest in things like real estate, commodities, currency, and cryptocurrency with some brokerage firms.
- Fees: How much are you willing to pay in fees? Nearly all brokerages charge fees, but they vary quite a bit. Generally, the more active management involved in your brokerage account, the higher the fees may be. Some online brokerages and robo-advisors charge comparatively minimal fees.
- Balance requirements: How much money can you put into your investments? The minimum amount required to open a brokerage account is different with every provider, and some may require you to maintain a certain balance in your account.
- Convenience: How much effort do you want to put into managing your portfolio? Online brokerages can make it very easy to manage your investments; since you can take care of everything online, you have 24/7 access to your account. If a brokerage offers a robo-advisor or passively managed ETFs, that can also make investment decisions less involved.
How to open a brokerage account
Once you’ve chosen your firm, opening a brokerage account is relatively quick and easy. Brokerage firms request personal information from their customers, including financial and tax identification information, in order to comply with laws and other regulations. It’s a good idea to have all of your pertinent information at the ready to streamline the process.
Information to have ready when opening your brokerage account:
- Your name
- Social security number or taxpayer identification number
- Address/phone number/email address
- Date of birth
- Information from a government-issued form of ID, like a driver’s license or passport
- Employment status and occupation
- Whether you are employed by a brokerage firm
- Annual income
- Net worth
- Investment objectives and risk tolerance
If you go with a traditional brokerage, you may need to visit their office or talk to a broker on the phone to open your account. With an online provider, you can open your brokerage account anytime from the comfort of your couch.
Ready to start investing? You need a brokerage account.
If you want to invest in stocks, bonds, and other securities, a brokerage account is essential. Licensed brokerage firms like Stash can help you open and maintain a brokerage account that serves your mid- to-long-term financial plans. Whether you’re working toward goals six, fifteen, or thirty years down the road, establishing a brokerage account is the first step toward building a healthy, diversified portfolio.
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Disclosure: Roth IRA: Withdrawals of the money (Contributions) you put in are penalty and tax free. Prior to age 59½, withdrawals of interest and earnings are subject to income tax and a 10% penalty. All earnings are tax free at age 59½ or older, assuming your first contribution was more than 5 years prior. Income Eligibility applies.
Traditional IRA: Withdrawing prior to age 59½, generally means you’re subject to income tax and a 10% penalty. Withdrawals after age 59½ are only subject to income tax but no penalty.
- What is a brokerage account and how does it work?
A brokerage account is an investment account you use to buy and sell securities through a licensed brokerage firm.
- Is a brokerage account a good idea?
If you want to invest in the stock market, a brokerage account is not only a good idea, it’s essential. You are required by law to have a brokerage account to access the stock market.
- Can you lose money in a brokerage account?
Yes. All investing involves risk, including the risk that you could lose money.
- What does a brokerage account allow you to do?
A brokerage account allows you to buy and sell securities like stocks, bonds, ETFs, and mutual funds.
- Are brokerage accounts FDIC-insured?
Unlike savings accounts at banks, brokerage accounts are not FDIC insured.
- How do brokerage account taxes work?
Income you earn from your securities in a brokerage account is subject to taxes; usually, you’ll pay capital gain tax on your profits.
- Are brokerage account dividends taxable?
Dividends are taxable, but the rate at which they’re taxed depends on whether they are non-qualified or qualified dividends.
- Can a brokerage account have a beneficiary?
Yes, most brokerage accounts allow you to name a beneficiary via “Transfer on death” or other beneficiary documents.
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