Everything You Need to Know About Investment Accounts

Everybody knows that finance guys love two things. We love our numbers and we love our acronyms. But maybe you’re out there and you hear 401(k), HSA, IRA, and you have no idea what those mean. Don’t worry. In this video, I’m going to break it all down for you.

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As a general overview, all of these accounts have unique characteristics and unique traits. But the one thing they all have in common is they are tools in your financial tool belt that you can use to grow your army of dollar bills. Essentially, they are accounts that you, the owner of the account, put money into, and you can allow that money to grow over time utilizing the eighth wonder of the world—compound interest.

Alright, so let’s start with the very first one. Let’s talk about employer-sponsored retirement accounts. And the first one that most people think of when they think of these accounts is a 401(k). Generally speaking, these accounts are provided by your employer as an employee benefit to you. But those aren’t the only types of employer-sponsored retirement accounts. There’s also 403(b)s, 457s, SEP IRAs, and SIMPLE IRAs that might be available to you through your employer.

For example, 403(b)s are often available to education or nonprofit institutions. 457s are available to governmental entities, or the TSP—the Thrift Savings Plan—is available to certain federal workers. These accounts allow you to launch your wealth-building journey because not only can you put money in, but so can your employer, often through a match. So you put dollars in, and then your employer puts dollars in, allowing you to supercharge your savings. That means the more money you save, the more free money that you get. And let’s be honest—what’s better than free money? I’m getting back in line.

It is important to note, though, that these accounts do come with some rules and limitations. For example, for those under 50, the maximum you can save to a 401(k), 403(b), or 457 is $23,000 as a salary deferral. For those over 50, you can do an additional catch-up contribution of $7,500, taking your total salary deferral to $30,500 for 2024. But don’t forget, these accounts are designed to be retirement accounts, which means you don’t want to access the dollars before you hit age 59½, or else you may be subject to taxes and penalties.

But employer-sponsored retirement accounts aren’t the only types of retirement accounts that you can utilize. Those are often provided by your employer, but there are individual retirement accounts that you can set up even if your employer does not have an employer-sponsored plan. These are most often either traditional IRAs or Roth IRAs. Because they’re not tied to any one employer, anyone can open them up—whether you work for a large employer or a small employer or even if you’re self-employed. All you need to be able to open an individual retirement account is earned income so that you can contribute to that account.

IRAs, both Roth and traditional, have an annual limit of contributions of $7,000 for those under 50. And for those over 50, there’s an extra $1,000 catch-up, taking the limit to $8,000 in 2024. As I’ve already mentioned, both IRAs as well as employer-sponsored accounts allow two different ways for you to save money—either through the pre-tax version, saving taxes now, or the Roth version, being able to pull out distributions tax-free in the future.

Pre-tax contributions are where you put money into the account and you get a current year tax benefit. It actually reduces the income that you show in your tax return. Roth contributions don’t give you a current year tax benefit, but when you go to pull that money out in retirement, it is completely tax-free.

So you may be asking the question: How do I know if I should do pre-tax contributions or Roth contributions? Well, the answer most likely depends on your tax rate. If you add up your marginal federal rate, your marginal state rate, and it’s greater than 30%, there’s a really good chance that you ought to be doing pre-tax contributions because the current year tax benefit is so valuable. If you add up your marginal federal rate and your marginal state rate and it’s below 25%, odds are you should be doing Roth contributions because that tax-free growth is going to be huge for you long term.

If your marginal rate is between 25 and 30, there are other factors that come into play like your unique time horizon, goals, risk tolerance, risk capacity, and your other investment account structure.

Now we’ve talked about a lot of retirement accounts—let’s talk about a lesser-known tool that you can use for retirement that wasn’t actually built that way. It’s one of my very favorite accounts known as a Health Savings Account. Health Savings Accounts, or HSAs, are specific accounts that are designated to pay for qualified medical expenses. But did you know it can actually be a huge retirement planning tool? Because those medical expenses that you pay for can be this year, year or in future years, or you can actually go back in time and reimburse yourself for prior medical expenses that you’ve paid.

In order to be able to contribute to a Health Savings Account though, you must be covered under a high-deductible health plan, and you have to make sure that the health plan you’re covered under is HSA-eligible. If you are covered under a high-deductible health plan and you’re covered as an individual, you can contribute annually $4,150 to your Health Savings Account. If you have family coverage on your high-deductible plan, you can actually put $8,300 into your HSA.

The beautiful part about this is: You put the money in on the front end and you get an immediate tax deduction. You can then invest those dollars so that they grow tax-deferred. And in the future, when you go to pull that money out to pay for qualified medical expenses or to reimburse yourself for prior medical expenses, you can pull the money out completely tax-free. It is literally triple tax-advantaged.

But just because we love HSAs does not mean that the high-deductible plan is the best insurance plan for you and your family. So make sure every year at open enrollment you are choosing the plan that makes the most sense for your unique medical needs. If you can contribute to an HSA, we absolutely love it. That’s why it’s in Step 5 of the Financial Order of Operations.

And do you want a bonus tip? I already mentioned that HSAs can be triple tax-advantaged. What if I told you they can actually be quadruple tax-advantaged? If you work for an employer that allows you to make payroll contributions into your HSA, not only do you get the three basic tax benefits, you also can save on payroll taxes on every single paycheck.

Now, the last account that I want to mention isn’t actually a retirement account in and of itself, and yet it’s wildly valuable when it comes to retirement. And that’s just a regular old after-tax taxable brokerage account. You can open these accounts up at any financial institution. You can open them at Vanguard, Charles Schwab, Fidelity—super easy to open up. And you can open up as an individual or as a joint account.

Brokerage accounts have full liquidity, which means you don’t have to wait until age 59½ like you do with IRAs or 401(k)s. And they don’t have to be used for specific expenses like a Health Savings Account. They are also not subject to income restrictions. So no matter how much money you make, you can put as much money into a taxable brokerage account as you want to each and every year.

While you don’t get a tax deduction for money that goes into a brokerage account, and you don’t necessarily get to pull it out tax-free, as the money grows inside a brokerage account and you liquidate holdings, they’re often subject to favorable long-term capital gains rates, which are currently lower than ordinary income rates.

So a taxable brokerage account can be a great complement to your overall retirement portfolio. If you can build your three unique and distinct tax buckets, you get to pick and choose which taxes you pay in financial independence.

While every one of these accounts can be wildly beneficial for building toward financial independence—with so many options, how do you decide which one is best for you? Don’t worry. We have got you covered.

If you want to know where each one of these accounts fits in your financial journey, make sure you check out our Financial Order of Operations. It’s a nine-step tried and true process of what to do with your next dollar. If you want to have your free copy, go to moneyguy.com/resources and download it today.

So if you haven’t done it already, make sure you check out all our resources. And in the comments below, let us know—Which one of these accounts are you using? And where are you at in your Financial Order of Operations?