Are you planning to invest your $ 1,400 stimulus check? Why a Roth IRA can make sense
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A new set of $ 1,400 worth of stimulus checks could entice some recipients who don’t really need the money to try their hand at the exchange instead.
Depending on your goals, a brokerage account may not be the best choice, say some experts.
A third round of direct payments was approved by Congress and President Joe Biden through the American Rescue Plan Act last month.
Payments are up to $ 1,400 per person plus $ 1,400 per eligible dependent child or adult.
Like the first two direct checks, the money is intended for individuals and families who meet certain income and other requirements.
And like those earlier payments, the money isn’t necessarily targeted. The funds will therefore go to people who have been hard hit by the pandemic, as well as to people whose incomes have not been interrupted.
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It can be tempting for the folks in the latter camp to try and make the money grow.
A recent survey by Deutsche Bank found that many young retail investors who are already using online brokerage platforms plan to spend some of their money on stocks.
How strongly these investors wanted to assign themselves to the markets varied depending on their age.
Individuals between the ages of 25 and 34 planned to spend 50% of their stimulus checks on stocks. That was 40% of the money for 18 to 24 year olds and 37% for 35 to 54 year olds.
The urge to invest has led experts to drive investors to make smart decisions with the money.
CNBC’s Jim Cramer advised that after people pay their bills, put most of their money into an S&P 500 index fund. At least $ 10,000 should be invested in any of these low cost funds prior to investing in any individual stock.
Josh Brown, CEO of Rithholtz Wealth Management, who also contributes to CNBC, recently wrote a blog post urging people to stay away from speculative investing.
“Do not buy SPACs, digital currencies, or non-fungible tokens sold to you by millionaires and billionaires with your stimulus check,” Brown wrote.
Some stimulus check recipients have been lured by features offered by fintech startups to make accessing the money more convenient. For example, a Robinhood feature gives traders bonuses for new deposits.
While much of the advice has focused on how to invest the stimulus checks, less attention has focused on where to invest them.
The advantage of the IRA is that it is geared towards the longer term.
CPA and founder of Ed Slott & Co.
“Where you place it and how you invest it are two different things,” said Ed Slott, CPA and founder of Ed Slott & Co.
When deciding where to keep your money, people should consider using traditional or Roth individual annuity accounts instead of a brokerage account, Slott said.
An important question is how long the money will be in this account.
If it’s a short term investment that an investor plans to go back and forth, it may be better to keep it in a brokerage account where it can be withdrawn without penalties.
But it’s also important to consider the tax implications for that money. This is where an IRA might be more beneficial, Slott said.
Long-term capital gains rates apply if you hold stocks for more than a year. However, for any shorter time horizon it is taxed at normal rates.
“The advantage of the IRA is that it is long-term,” said Slott.
After-tax Roth IRAs, according to Slott, may offer the greatest upside potential in this situation.
With a Roth, trading on the account is not reportable, so the money can be withdrawn tax-free as long as certain conditions are met. (In general, receipts cannot be withdrawn for five years since the Roth IRA contribution was made. Certain penalties may also apply if you are under 59½ years old.)
With a traditional IRA, any trade within the IRA would also not be tracked, but the account holder would have to pay tax on the money when withdrawing.
Ideally, investors leave the money where it is to make it grow.
“If you can persevere over the long term, you will have big gains over time,” said Slott.