Why I Always Max Out My Retirement Plan Before Funding My Brokerage Account

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This strategy helps me take advantage of valuable tax breaks.


Key points

  • Brokerage accounts give you unrestricted access to the money you're investing.
  • But brokerages don't offer tax breaks, whereas retirement plans do.

Did you know that Social Security only pays the average senior $1,565 a month? I was surprised to find out years ago that those benefits aren't as generous as I would've expected.

In fact, it's important to save for retirement throughout your working years to supplement your Social Security benefits. If you don't, you might struggle financially once your career ends.

There are different dedicated accounts you can use to sock money away for your senior years. If your employer offers a 401(k), signing up could mean getting a chance to score some free money for retirement. That's because many companies match worker contributions to 401(k)s up to a certain point. For example, your employer might match your 401(k) contributions dollar for dollar up to a certain amount.

If you don't have access to a 401(k), you can open an IRA and save for retirement. But with an IRA, there are no matching contributions to be enjoyed.

Currently, I'm housing my retirement savings in a solo 401(k), which is a special 401(k) for self-employed people, and I'm doing my best to invest the money in that account, so it grows into a larger sum. While I also have a brokerage account I invest in, I always make a point to max out my solo 401(k) contributions before funding my brokerage account. Here's why.

It's all about the retirement tax savings

The downside of saving in a 401(k) or IRA is that you're usually not allowed to access your money until you turn 59 ½. If you take a withdrawal sooner, you'll risk a 10% penalty.

But there's a reason why early 401(k) and IRA withdrawals are penalized. The IRS offers tax breaks on the money in your retirement accounts. If you put money into a traditional 401(k) or IRA, that's money the IRS won't tax you on. So say you put $3,000 a year into one of these plans. By doing so, you exempt $3,000 of your earnings from taxes.

It's for this reason I like to contribute the maximum allowable amount to my retirement plan every year. The more money I put in, the less of my income the IRS gets to tax me on. I don't put money into my brokerage account until I'm certain I've maxed out my retirement savings. While my brokerage account gives me more flexibility -- I can withdraw my money at any time -- I also don't get any sort of tax break in that account.

Can you max out your retirement plan?

Maxing out a retirement plan may not be the easiest thing to do on an average income -- especially with a 401(k). Right now, the maximum amount you can put into a 401(k) is $19,500 a year if you're under 50. If you're 50 or older, that limit rises to $26,000. With an IRA, these limits currently sit at $6,000 for workers under 50 and $7,000 for those 50 and over.

If you're unable to max out your retirement plan, don't give yourself a hard time. Saving any amount of money for retirement is a smart move that could buy you a lot of financial security in the future. At the same time, you may want to prioritize your retirement plan over your brokerage account due to the tax breaks involved.

This isn't to say that you shouldn't put any money into a brokerage until you've maxed out your IRA or 401(k). But if you have $3,000 a year you can save, you may want to put the bulk of it into one of these plans to shield your income from taxes.

Finally, you should absolutely contribute enough money to your 401(k) to snag your full employer match before putting money into a brokerage account. If you don't claim your full match, you're effectively giving up free money, and that's an even harsher blow than giving up a tax break.

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