When you invest directly in a taxable brokerage account, you use after-tax dollars to make your investments. This means that you don’t receive any tax benefits for your contributions, and you’ll owe taxes on any earnings or capital gains when you sell your investments. Additionally, if you receive any dividends or interest from your investments, you’ll owe taxes on that income each year, even if you don’t sell the investment.
On the other hand, when you invest through a tax-advantaged plan like a Traditional IRA, you use pre-tax dollars to make your contributions. This means that you can deduct your contributions from your taxable income in the year you make them, which can lower your tax bill. Additionally, the money in the account grows tax-deferred, which means you don’t owe taxes on any earnings until you withdraw the money in retirement. This can help your savings grow more quickly over time.
However, there are some limitations to investing in a Traditional IRA. For example, there are annual contribution limits, and there are penalties for withdrawing money before age 59 1/2. Additionally, once you reach age 72, you are required to take minimum distributions from your account each year, which can affect your taxes.
Overall, investing directly in a taxable brokerage account can be a good option if you want more flexibility and control over your investments, but investing through a tax-advantaged plan like a Traditional IRA can provide valuable tax benefits that can help your savings grow more quickly over time.