What Is a Brokerage Account? Definition, How to Open One

A brokerage account is an investment account opened through a brokerage firm. You can use a brokerage account to purchase investments, such as stocks, bonds, mutual funds and ETFs. A brokerage account doesn't have limits on how much you can contribute or what you can do with the money. In exchange for this flexibility, you won't get the tax benefits found in retirement accounts.

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How does a brokerage account work?

You can open a brokerage account quickly online. Many brokerage firms allow you to open an account with no upfront deposit. However, you will need to fund the account before you buy investments. You can move money from your checking or savings account or another brokerage account.

You own the money and investments in your brokerage account and can sell investments anytime. The broker holds your account and acts as a middleman between you and the investments you want to buy.

You can open more than one brokerage account and there's no limit on the amount of money you can put into a taxable brokerage account each year. There should be no fee to open a brokerage account.

Where to open a brokerage account

Online brokers and robo-advisors both offer brokerage accounts. Which type of brokerage account provider you choose largely depends on whether you want to manage your own investments or gain access to help.

Online brokerage account

If you want to purchase and manage your investments, an online brokerage account is for you. An account with an online brokerage company enables you to buy and sell investments through the broker’s website. Discount brokers offer a range of investments, including stocks, mutual funds and bonds.

Managed brokerage account

A managed brokerage account comes with investment management from a human investment advisor or a robo-advisor. A robo-advisor provides a low-cost alternative to hiring a human investment manager. These companies use computer programs to choose and manage your investments based on your goals and timeline. Robo-advisors may be a good fit if you want to be hands-off about your investments.

How to open a brokerage account

Setting up a brokerage account is simple. You can typically complete an application online in under 15 minutes. You then add money to a brokerage account, similar to depositing funds into a bank account. In most states, you must be 18 to open your account. But parents can set up a brokerage account for their kids.

Once you've opened the account, you need to deposit or transfer funds before you can invest. That sounds complicated, but these days, it’s pretty simple to link your bank account with a brokerage account online.

Some brokers make you verify a transaction. If that’s the case, you’ll have to wait until the broker deposits a small sum in your bank account — typically a few cents. Then, you’ll confirm the transaction by telling the brokerage the amount deposited. The broker can walk you through the process if you have any questions. After the transfer is complete and your brokerage account is funded, you can start investing.

Your brokerage account may ask you if you'd like to enable margin trading. A margin account allows you to borrow money from the broker to make trades. You'll pay interest for margin trading, though, and it's risky. Generally, it's a good idea to stick with a cash account at first.

A brokerage account is taxable

The act of opening a brokerage account doesn’t mean you’ll be on the hook for additional taxes. However, investment income within a brokerage account — for example, the profits from selling your investments — is subject to capital gains taxes. This is why brokerage accounts are also called “taxable accounts.” Retirement accounts (such as IRAs) offer tax advantages for contributing that are designed to encourage saving for retirement.

But that doesn't mean brokerage accounts are "non-tax advantaged,” according to Delyanne Barros, founder of Delyanne The Money Coach.

"The benefit of the brokerage account is leveraging the long-term capital gains tax," she said in an email interview. "In order to do that you must be a long- term investor. That means you have to hold your investments for over a year. Not only will this help you capture the most favorable tax bracket, but it will likely result in better returns." Depending on your taxable income and filing status, the long-term capital gains tax rate is 0%, 15% or 20%^[0]

The key to reaping a brokerage account's advantages, Barros said, is to stay invested, ignore the day-to-day stock market noise, "and go live your life." Here are five brokerage account tax tips to keep in mind.

1. If you buy stock through a brokerage account, you’ll probably have to pay capital gains tax if you sell it for a profit later. 

2. If you sell a stock a year or less after buying it, you may have to pay short-term capital gains tax. This is usually your ordinary income tax rate and is often higher than the long-term capital gains rate.

3. If you sell an investment for a loss, you can use that loss to offset some of your gains and reduce your capital gains tax burden.

4. If the stock or fund you buy through a brokerage account pays dividends, you’ll have to pay taxes even if you choose to reinvest them. If this is the case, your brokerage will send you a DIV-1099 tax form to include in your tax return.

5. You only pay capital gains taxes when you've earned income on your investments — so while taxes are viewed as a "bad" thing and savvy investors try to minimize them, they're a signal that your investments are earning a return. That's good news.

So what are IRAs and 401(k)s?

In a standard brokerage account, your investment earnings will likely be taxed. On the plus side, there are very few rules for brokerage accounts. You can pull your money out anytime, for any reason, and invest as much as you’d like. That differs from the most popular retirement accounts:

• IRAs: In an IRA, you earn tax benefits for contributing. Depending on the type of IRA, that means you'll get either a tax deduction on contributions in the year you make them, or your money will grow tax-free and you can take distributions in retirement without paying income taxes. The latter applies to a Roth IRA; traditional IRA contributions are deducted from your income now. (Learn more about the differences between Roth and traditional IRAs.)

• 401(k): A 401(k) is a retirement account offered through an employer. If you have one, you are already investing for retirement through that account — and your employer may offer matching contributions. Generally speaking, you'll want to invest enough in a 401(k) to earn the full available match before you contribute to an IRA or taxable brokerage account.

Wendy Moyers, a certified financial planner at Chevy Chase Trust in Bethesda, Maryland, says the ideal situation is to have both a taxable brokerage account and an IRA or 401(k), but it can depend on your goals.

"If you want to save money to buy a house, a brokerage account would be more appropriate," Moyers says. If you want to invest for retirement, consider opening a retirement account rather than a taxable brokerage account.

The table below provides a few details on the differences between a brokerage account and retirement account.