Opening a broker account makes all our talk about financial freedom and money machines feel real. It’s your first step that’s not just talk, which has that mix of excitement and uncertainty like when you first got your driver’s license. But honestly, there’s not much difference between opening a bank account and an investing or trading broker account.
And you know what’s amazing with many brokers nowadays like TD Ameritrade and TradeMonster? No account minimums and no maintenance fees means free accounts without committing any money. You can play around endlessly with all their software, practice with paper trading (virtual trading), take classes, and understand their features until you’re completely comfortable!
The first thing they’ll ask you is what type of an account you want. They’re basically asking if you’re investing by yourself or as a group, and what tax rules your investing activities will fall under. Same as when you open your bank account.
Next, you have the choice of what abilities your account can have: cash or margin. Cash accounts are like your checking account. If you buy something, you’ll need enough money in the account to pay for it.
Margin accounts are more like loans or credit. In addition to the actual cash in the account, you can borrow money from the brokerage based on the equity what you already own, using that as collateral. Then, you can buy extra stocks, options, forex, and futures.
Obvious warning: don’t abuse your margin accounts. Just like you won’t want to get too many loans or max our your credit cards. If you have to take money from other parts of your money machine to cover losses from over-leveraging your margin account, you will have broken your money machine. Do not deviate from the simple plan we showed you in Day 1 and Day 2!
Standard Account Types
Standard accounts are the most common and flexible account types. They allow for multiple owners, interest to be distributed as needed, ownership to be transferred in the event of death, and provide the ability to apply for margin and options trading.
- Individual - standard brokerage account with only one owner.
- Joint Tenants (with Rights of Survivorship) - two or more account owners, with each person having an equal interest in the entire property.
- Tenants in Common - two or more account owners with each person owning a specified percentage of the entire property.
- Community Property - owned by two married people who acquired property during the marriage (with exceptions). Community Property is based on the theory that each spouse has equal interest in the property acquired by the efforts of either of them during the marriage.
- Tenants by the Entireties - owned by two married people.
- Guardianship or Conservatorship - the account holder's assets, usually those of a minor or a person who can no longer manage his or her own property or financial matters, are managed by a guardian or conservator. Investment decisions are made solely by the court-appointed guardian or conservator.
Retirement Account Types
A critical part of your the security component of your money machine. Just about everyone has at least one retirement account already set up, either by yourself or through employer. Knowing what you know now from Day 2 about investments in the security component, doesn’t it make a lot more sense why retirement accounts have the rules they do?
- Traditional IRA - give you an immediate tax benefit because contributions are often tax deductible. With a Traditional IRA, up to $5,000 a year for 2012 and up to $5,500 for 2013 of tax-deferred earned income may be placed in the IRA until the account owner reaches 70½ years of age. Account owners may also contribute an additional $5,000 a year of earned income to a separate IRA for a non-income-earning spouse. Account owners who are age 50 or over are allowed to contribute an additional $1,000. Taxable distributions from an IRA can be taken without penalty starting at age 59½ and must be started by April 1st of the year following the year the account owner reaches 70½.
- ROTH IRA - tax advantages differ from the Traditional IRA. If eligible for this account, your annual contribution limits are the same but are not tax deductible. However, since annual contributions have already been taxed, these contributions will never be taxed again and earnings can grow tax free. Finally, the contributed funds can be withdrawn any time you wish and there are no required minimum distributions after age 70½.
- SEP (Simplified Employee Pension) IRA - for self-employed individuals and for use by small companies for qualified employees to receive employer contributions.
Business & Group Account Types
- Trust - allows the account owner to transfer assets to one or more recipients, called trustees, who hold legal title to the transferred assets and manage the assets for the benefit of the owner or other named beneficiaries.
- Limited Partnership - established by two or more individuals who carry on a business for profit. At least one partner bears unlimited liability, and additional partners are liable only to the extent of their investment.
- Partnership - established by an association of two or more persons who have an established partnership agreement to carry on, as co-owners, a business for profit. The accounts are not subject to taxation. Instead, the taxes flow through to the individual partners and are reported on their personal income tax returns.
- Investment Club - established by a group of people who meet regularly and pool their funds to invest in securities. Since most investment clubs are formed as partnerships, their dividends and realized capital gains and losses are passed through for tax reporting by the individual members.
- Limited Liability - offers some of the most popular benefits of partnership and corporate accounts. It offers the pass through tax status of the partnerships, and the limited personal liability of corporations. The liability of the company and its owners is limited to their investment.
- Sole Proprietorship - established for a non-incorporated, single-owner business. With this type of account, the owner and the owner's company are considered a single entity for tax and liability purposes.
- Corporate (profit and non-profit) - established by a legal entity, authorized by a state, ordinarily consisting of an association of numerous individuals. A corporation can acquire assets, enter into contracts, sue or be sued, and pay taxes in its own name.
- Non-Incorporated - established by non-incorporated, non-profit organizations. These are not chartered as corporations, therefore lacking the powers and immunities of a corporate enterprise.
- Pension or Profit Plan - tax-exempt trusts that can be set up by a company or self-employed individual for the purpose of retirement.
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