Since their invention in the 1970s, retirement accounts like the 401(k) and the traditional IRA have been touted as ideal ways to tuck money away for retirement. And in many ways, they live up to the hype. Tax-free growth of tax-deductible contributions to these vehicles really lets you rack up gains without being held back by tax concerns along the way.
As with most choices in life, however, this one comes with trade-offs. Although postponing taxes — and simply managing the taxation of this money — has its obvious benefits, retirement accounts have their downsides too.
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To this end, here’s a closer look at five reasons why you might not want to keep all of your retirement savings in an IRA or 401(k).
1. Your money is tied up — at a cost
OK, contributions to a retirement account aren’t exactly inaccessible once they’re in there. Getting to this money could come at a cost, though. If you’re not yet 59-1/2 years old when you take it out, it’s taxed as income when it’s withdrawn, in addition to a 10% penalty on the amount withdrawn.
There are some reasonable exceptions that can negate this penalty, such as medical expenses, using the money for a first-time home purchase, or unforeseen catastrophic emergencies. Outside of these expenses, though, plan to pay a modest amount above and beyond any taxes due.
Withdrawals from taxable brokerage accounts and savings accounts, of course, don’t incur these costs.
2. Less flexibility, fewer options
This probably won’t apply to all investors. In a handful of cases, though, you won’t be able to do as much with a retirement account as you can with an ordinary brokerage account. For example, brokerage accounts can be marginable. Retirement accounts can’t.
Margin accounts are simply brokerage accounts that allow you to borrow money to own more stocks, potentially achieving more returns than you otherwise might. Margin accounts also allow you to earn interest by lending out shares of stocks you own to short sellers of those same tickers. Certain kinds of option trading strategies also require margin, along with approval from your broker.
It’s also possible — albeit relatively rare — that you won’t be able to hold an unusual asset in a retirement account that you might be able to hold in a brokerage account. Real estate that’s personally owned or controlled by you, real precious metals (including gemstones), life insurance, and S corporations are typically not allowed in an IRA.
