Understanding the different types of investment accounts will allow beginner and rookie investors to grow their wealth over time. Investing your money is the smartest decision you could make, especially if your goal is long-term wealth creation. However, understanding the various types of investment accounts can be daunting for rookies in the investment world.
We aim to educate our readers on such topics. As a result, in this article, we will explore the four main types of investment accounts and provide insights into each. But first, let’s explain what an investment account means.
What Is an Investment Account?
An investment account is a type of financial account that allows you to invest your money in various securities, such as stocks, bonds, mutual funds, exchange-traded funds (ETFs), and more. Several types of investment accounts are available, each with its unique set of features, benefits, and limitations.
The 4 Types of Investment Accounts
If you like having options, you’re in luck. Various types of investment accounts exist that provide investors with plenty of options. As mentioned previously, investors can use these accounts to invest in various securities. Moreover, some types of investment accounts specialize in achieving your savings goals.
As the market is overly saturated with all kinds of investment accounts, we must first begin by explaining the types of investment accounts.
Standard Brokerage Account
In a traditional investment sense, where investors buy and sell stocks, bonds, ETFs, etc., a standard brokerage account is a popular option for beginners and experienced investors. These flexible accounts allow investors to invest in a wide range of assets, and there are no restrictions on how much you can invest.
Some brokerage accounts require a minimum balance, while others do not. You can open a standard brokerage account with a broker, bank, or online investment platform. However, there’s more to standard brokerage accounts rookie investors must learn. How the account is owned makes these accounts so distinct from others. Your options include the following:
- Individual brokerage account: This is a personal account owned and managed by a single individual.
- Joint brokerage account: This is an account that two or more individuals own, such as spouses, who share equal access to the account.
- Custodial brokerage account: This is an account opened on behalf of a minor, with an adult serving as the account custodian until the minor reaches the age of majority.
Standard brokerage accounts can be cash or margin accounts. It depends on the firm offering the account. Cash accounts are by far the most popular brokerage account type. It works simply: you deposit money into the account and use it to buy and sell securities.
On the other hand, margin accounts are a popular option for more experienced investors. However, these accounts are riskier and operate based on lending money and collateral.
A retirement account is an investment account designed to help you save for retirement. Several types of retirement accounts exist, including traditional IRA, Roth IRA, 401(k), and more. Each type of retirement account has its unique tax benefits and contribution limits. Understanding these are essential for ensuring the retirement account meets your retirement saving goals.
Retirement accounts fall into several sub-types, including the following:
- Traditional IRA: This is a tax-deferred retirement account where you can contribute pre-tax income, which can lower your taxable income. You will pay taxes on your contributions and earnings when you withdraw funds from the account in retirement.
- Roth IRA: This is a tax-free retirement account where you can contribute after-tax income. What’s unique about Roth IRAs is that you don’t pay taxes on your contributions or earnings when you withdraw funds from the account in retirement.
- 401(k): The most popular retirement account offered by an employer, where you can contribute pre-tax income, and your employer may also match a portion of your contributions.
Retirement accounts have their unique eligibility rules. For example, you or your spouse must have earned an income to qualify to contribute to an IRA account. Moreover, IRA accounts have contribution limitations of $6,500 or $7,500 if above the age of 50. There are also eligibility and contribution rules and limitations to Roth IRA and 401(k) retirement accounts.
An education account is a tax-advantaged investment account designed to help you save education expenses, such as college tuition, room and board, and more. There are two main types of education accounts. Those include the 529 plan and a Coverdell Education Savings Account (ESA). The great thing about education accounts is that anyone can contribute any amount of money on behalf of a beneficiary. Furthermore, the account owner can name anyone as a beneficiary so long as the money in the account is used for education-related expenses.
As mentioned previously, education accounts fall into two distinct options:
- 529 plan: This state-sponsored investment plan offers tax benefits for education savings. You can use the funds for qualified education expenses, such as tuition, room and board, and books.
- Coverdell ESA: This education savings account offers tax-free withdrawals for qualified education expenses. You can use the funds for various educational expenses, including K-12 education.
Investment Accounts for Children
Investment accounts for children are specifically designed for minors. The parents, or another adult (custodian), maintain these accounts until the child reaches an age of maturity (18-21 depending on the state). These accounts can hold traditional securities (cash, bonds, mutual funds, bonds) and even real estate assets. Because of that, these types of investment accounts for children can be the following:
- Uniform Transfer to Minors Act (UTMA): These investment accounts can only hold cash, stocks, bonds, and mutual funds.
- Uniform Gift to Minors Act (UGMA): These children’s investment accounts can hold cash, stocks, bonds, mutual funds, and real estate assets. The ability to hold real estate assets makes UGMA accounts different from UTMA accounts.
- IRA and Roth IRA: These investment accounts for children are only eligible for children earning money. Furthermore, the income can come from any source if the custodian has reported it to the IRS. Lastly, there are no withdrawal penalties for contributions with IRA and Roth IRA children’s accounts.
Not every state allows both types of children’s investment accounts. You must consult a broker to determine what type of investment account your state allows. It’s common for states to allow either or both UTMA and UGMAs. Moreover, unlike educational accounts, investment accounts for children have no limitations on what the money in the account can be used for.
For individuals looking to take charge of their financial future, choosing the right type of investment account is essential for achieving your long-term investment goals. Fortunately, there are plenty of options and different types of investment accounts. But unfortunately, understanding all of them can be a daunting task.
What’s important is to do your due diligence and examine your investment plans and goals to determine the right type of investment account for you.
Frequently Asked Questions
The four types of investment accounts are:
Standard Brokerage Account
Investment Accounts for Children
The type of investments you can put in your investment accounts depends on the account itself. However, the majority of investment accounts will accept all or some of the following:
Real Estate Assets
IRA and brokerage accounts are types of investment accounts that allow you to achieve your long-term goals. However, determining which one to open depends on several things. IRAs have contribution limitations and early withdrawal penalties but may save you money on taxes. On the other hand, brokerage accounts are more flexible but require you to pay taxes on your gains and earnings.