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Morningstar Says This Brokerage Account Can Help You Save More for Retirement Than a 401(k)


Many Americans save for retirement through 401(k)s. These accounts offer tax-deferred benefits, which means that your money can grow tax-free until you make a withdrawal. But for those who don’t have access to an employer-provided retirement account, or simply want to save additional money beyond the IRS limits for a 401(k), Morningstar says that taxable accounts used to buy and sell investment securities can help you save more for retirement. Here’s what you need to know.

A financial advisor can help you create an investment plan for your retirement needs and goals.

Comparing 401(k)s vs. Taxable Accounts

Employer-provided retirement accounts like 401(k)s offer workers the possibility to make automatic investments while getting a tax break — the money you put into a plan can grow tax-free until retirement.

While this is a popular retirement savings option, the Chicago-based financial services firm Morningstar points out that not all 401(k)s are created equal. Some charge high administrative costs, others offer expensive investment lineups and employers do not have to match contributions.

Additionally, not all workers have access to 401(k)s. And the IRS also limits how much you can put into the account. For 2023, the contribution limit is $22,500 (workers ages 50 and older can contribute up to $30,000).

Comparatively, if you want to invest more aggressively for retirement, and you have already maxed out how much you can contribute to a 401(k) and other retirement account options like IRAs, Morningstar says you may consider putting your money into a taxable account.

Taxable accounts, which are also commonly referred to as taxable brokerage accounts, allow investors to buy and sell stock, bonds, exchange-traded funds (ETFs), mutual funds and other investment securities.

Unlike with 401(k)s, however, the IRS does not set contribution limits on taxable accounts, nor does it penalize investors for making early withdrawals — the agency charges a 10% tax penalty on 401(k) withdrawals made before age 59.5 unless you qualify for an exception.

Taxable accounts also allow retirement investors to keep investments longer without having to make withdrawals, whereas the IRS imposes required minimum distributions (RMDs) for 401(k)s (which in 2023 will be delayed until age 73).

Retirement investors should note that the money they make by selling investment securities through a taxable account will get taxed as income. But if you hold those securities as long-term investments for over one year, you could pay capital gains or dividend taxes, which for some investors can be lower than the federal income tax rate.

4 Factors to Determine When a Taxable Account Is Better

Morningstar Says This Brokerage Account Can Help You Save More for Retirement Than a 401(k)

Morningstar broke down four common factors to help retirement investors determine when a taxable account can beat a 401(k):

  • Assess whether your 401(k) plan charges high administrative fees. As an account holder, you may get charged fees for investments, plan administration and individual services. These fees are typically disclosed on the plan administrator’s website or the fund’s prospectus, among other marketing sources, and can eat into your retirement savings over time. Therefore, you should compare your 401(k) with other plans to make an assessment.
  • Make sure your taxable account investments are tax-efficient. Morningstar says that “a taxable account will rarely be the better option unless you’re able to invest in securities that make few ongoing distributions of income, capital gains, or both.” And the financial services firm recommends investors choose a brokerage platform that can offer a “good array of low-cost, tax-efficient options” like “index-tracking ETFs and municipal-bond funds.”
  • Consider your tax bracket when making contributions. Pre-tax contributions made to a 401(k) will reduce your taxable income upfront. However, this is more valuable to higher-income investors who are looking for ways to reduce their taxable income during the year of their contribution. As an example, if your marginal tax rate is 32% (income between $182,100 and $364,200 for tax year 2023) and you contribute $20,000 to your 401(k), you would save $6,400 in taxes that year.
  • Consider your tax bracket when making withdrawals. Taking money from a taxable account can benefit you more than a 401(k). Investors making a withdrawal from a taxable account will owe capital gains taxes on the sale of a security. But those pulling money out from a 401(k) will get taxed at a higher rate for ordinary income. You should also keep in mind that because you don’t pay taxes on your 401(k) contributions, you’ll owe ordinary income taxes on the whole withdrawal, whereas taxable account investors will only have to pay taxes on capital gains. And for this reason, high-income investors may prefer taxable accounts over 401(k)s when it comes to taking out money.

Bottom Line

Morningstar Says This Brokerage Account Can Help You Save More for Retirement Than a 401(k)

For retirement investors comparing taxable accounts with 401(k)s, Morningstar says that it’s difficult to make a one-size-fits-all assessment. So, if you’re planning a retirement investment strategy, you should consider that both your tax bracket and tax rate will change over time. This will impact your contributions and withdrawals. You should also compare administrative fees and make sure that your investments are tax-efficient. Furthermore, you should note that these accounts aren’t mutually exclusive — financial advisors will recommend having both, when possible, to develop a comprehensive retirement strategy.

Tips for Retirement Investments

  • A financial advisor can help you pick different retirement investments for your financial plan. SmartAsset’s free tool matches you with up to three vetted financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
  • If you are considering different investments for your retirement, here are 13 types of financial investments for 2023.

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