Your First 3 Investment Accounts
By: Eric Rosenberg
Updated: December 3, 2019
Graduating from college is a significant life milestone. It’s a great time to graduate from the ramen-and-light-beer diet to something a bit more nutritious, but managing your money as an adult means more than a bigger food budget.
It’s also time to start saving and investing for the future. Retirement may seem a long way off, but it will sneak up on you if you are not prepared. Put these three key financial accounts in place at the start of your post-grad financial journey.
401(k) or Similar
If your employer offers a 401(k) account with matching contributions, sign up as soon as possible and take full advantage of the match. Employer 401(k) matching is a good motivation to save for retirement and is like free money from work. Don’t leave it on the table!
Your 401(k) account (or 403(b) or 457 at some employers) is a pre-tax account. That means you don’t pay any income tax on the account for your contributions, but you do pay fees when you withdraw in the future. Presumably, you’ll earn less and have a lower tax rate in retirement, so that makes the 401(k) a great deal.
Once you reach the full employer match, your savings focus should be on hitting the maximum annual contribution on your Roth IRA or traditional IRA. If you reach the IRA maximum contribution and can still save more, head back to your 401(k), 403(b) or 457 accounts and top it up to the annual maximum, which is set by the IRS every year. For 2019, the maximum contribution is $19,000 for this type of account.
There Are Few Options With Your 401(k)
You have to open your 401(k) at the investment company your employer picks. You also have access only to the investments they choose and have to pay whatever fees come with the account.
However, there is a service called Blooom that can help you make the most of your 401(k).
Blooom monitors the health of your employer-sponsored plan. It takes into account your age and risk tolerance. It removes the investments that don’t make sense for you to own and identifies funds that can help you reach your ideal asset allocation. It’s worth checking out.
What happens to your 401(k) if it’s time to switch jobs? When that time comes, you’ll need to know how to roll over your account to the brokerage of your choice.
A Roth IRA is an after-tax account. That means you pay tax when you contribute but don’t have to pay any tax on withdrawals in the future. With a Roth IRA, your investments grow tax-free until you retire. That’s the best deal for younger professionals with decades until retirement.
You also have an option for a traditional IRA, which is a pre-tax account like your 401(k). Pre-tax is still a good deal, but for younger people, after-tax accounts offer more advantages in most cases. That makes the Roth IRA king for new graduates.
After your full employer match in your 401(k), hitting the annual maximum in your IRA should be your biggest retirement savings priority. As with all retirement accounts, IRAs are subject to income limits and contribution limits. For 2019 and 2020, the maximum contribution for people under 50 is $6,000.
Most major brokerages in the U.S. offer IRA accounts with no monthly or annual recurring fees. Even better, most big brokers recently got rid of fees for trading stocks and exchange-traded funds (ETFs) in all accounts. That means you can buy and sell without paying any brokerage fees.
Taxable Investment Brokerage Account
Once you have your first two retirement accounts in place, it’s time to start your non-retirement investment account. Traditional brokerage accounts allow you to buy and sell stocks, ETFs, mutual funds, bonds, and sometimes other assets.
Unlike the pre-tax and post-tax accounts above, there are no tax advantages with a traditional brokerage account. You have to pay capital gains tax on any profits, though you can offset profits with any losses you incur. But you can also buy and sell at any time with no restrictions. Tax-advantaged retirement accounts make you leave your money until you reach the government’s retirement age or face tax plus penalties for early withdrawals.
The freedom and flexibility of this type of account let you grow your money with few restrictions. You have to pay taxes when you make a right call and strike it rich in the markets.
Conclusion: Your Money Is Just Warming Up
These three accounts will likely find companions in the future. My investment accounts include:
Learning how it all works today is a significant step to getting started. With the right investment accounts in place and regular contributions, you are positioning yourself to thrive.