Tax Consequences of Trading in an IRA Account Vs. Brokerage Account
- Since the IRA account it tax-sheltered, you do not declare any gains you make on investments held in the IRA account on your tax return. You also cannot deduct any losses. The Internal Revenue Service forbids IRA funds from being invested in collectibles like art, antiques and gems. Most financial institutions also prevent IRA funds from being invested in real estate. As of 2009, the IRS imposes a 10 percent penalty, plus any income taxes due, on most withdrawals made before the account holder reaches 59-1/2.
- When you trade in a brokerage account, the only limitations on your investment are those imposed by the financial institution. There are also no legal restrictions on when you can withdraw the money from the account, unlike the IRA. However, brokerage accounts are not tax sheltered, so each year you must report your gains or losses on your tax return. Depending on how long you have held the security before selling it, and on whether the gain is from a stock dividend or bond interest, the gain may be taxed as ordinary income or as a capital gain.
- Capital gains are divided into two categories: short-term capital gains or losses, which are those that result from selling a security after you have held it for less than one year, and long-term capital gains or losses which are those which result from selling a security that you have held for more than one year. If you have short-term capital gains, it is taxable as regular income. If you have long-term capital gains, it is taxed at the capital gains rates which are typically lower than regular income tax rates.
- When you pay taxes on IRAs depends on the type of IRA that you have. If you have a traditional IRA, you are allowed to take a tax deduction for the amount of your contribution in the year that you make the contribution, as long as you are not covered by a retirement plan at work or you fall below certain income limits. The money then grows tax-free as long as it remains in the account. When you withdraw the money, it is taxable as part of your income.
- Contributions Roth IRAs are not deductible, unlike the contributions typically made to traditional IRAs. However, once the money is in a Roth IRA it grows tax-free, and all withdrawals will be tax-free as well as long as the money is not withdrawn before the account holder turns 59-1/2.
