Episode 12: Master The Basics: Traditional vs Roth vs Brokerage

Understanding Investment Accounts: IRAs and Brokerage Accounts Explained

In the 12th episode of the Melby Money Show, host Shaun Melby delves into the world of investment accounts, essential for effective financial planning. The episode focuses on Traditional IRAs, Roth IRAs, and brokerage accounts, discussing their unique features, benefits, and drawbacks. The episode also covers current events including the impact of a Chinese AI company, DeepSeek, on the tech industry, and broader economic implications. Listeners will gain a deeper understanding of how to navigate various investment options for long-term financial success.

00:00 Introduction to the Melby Money Show
01:42 Current Events: AI Market Shakeup
07:09 Sponsor Message: The Power of Diversification
08:11 Deep Dive: Traditional IRAs
10:41 Exploring Roth IRAs
12:52 Understanding Brokerage Accounts
14:37 Conclusion and Key Takeaways
15:59 Closing Remarks and Listener Engagement

This podcast is for informational and educational purposes only.  This podcast is not financial advice.

Transcript

Episode 12: Master The Basics: Traditional vs Roth vs Brokerage

[00:00:00] Welcome to the 12th episode of the Melby Money Show. I'm your host, Shaun Melby. In today's episode, we'll be exploring the world of investment accounts. Understanding the different types of accounts available is a cornerstone to effective financial planning.

Whether you're just starting your investment journey or looking to optimize your existing portfolio, knowing the ins and outs of various account options can make a significant difference in your long term financial success. In this episode, we'll be focusing on three main types of investment accounts. Traditional IRAs, Roth IRAs, and brokerage accounts. Each of these accounts has its own unique features, benefits, and potential drawbacks. [00:01:00] By the end of our discussion, you'll have a clearer understanding of how these accounts work and how they might fit into your own overall financial strategy. We'll start by examining traditional IRAs, which offer tax deferred growth and potential tax deductions on contributions.

Then we'll move on to Roth IRAs, which provide tax free growth and withdrawals in retirement. Finally, we'll explore brokerage accounts, which offer flexibility and no contribution limits, but come with different tax implications. By comparing and contrasting these account types, you'll be better equipped to make informed decisions about your investments and retirement planning.

So today let's dive into the world of investment accounts and uncover the key differences that can shape your financial future. But first let's talk about what's in the news with current events.

A 600 billion market shakeup in a single day, yet some indexes still climbed? Welcome to the world of AI, where a newcomer just rewrote the rules and could reshape industries [00:02:00] far beyond tech. In recent days, the tech world has been buzzing about deeps seek a Chinese artificial intelligence company that's making waves with its latest AI model.

This development has sent shockwaves through the industry affecting major players.

What started as an internal tool for market analysis at a hedge fund has now become a global phenomenon, challenging the dominance of established AI giants. The company recently unveiled DeepSeek v3, an AI assistant that quickly became the most downloaded free app on Apple devices, surpassing even OpenAI's chat GPT.

But it's not just about popularity. DeepSeek claims its model matches the performance of more expensive competitors at a fraction of the cost. What's particularly noteworthy is the efficiency DeepSeek has achieved. The company reports developing its model in under two months, with end stage training costs of less than six million dollars.

This is a stark contrast to the billions of dollars that U. S. firms have invested in their AI [00:03:00] models and infrastructure. Now we have to take that 6 million number with a grain of salt. This is reporting from China that we're talking about and their numbers can't be trusted. But even if that development number is still a fraction of the cost of what has been spent so far on AI development, that has a tremendous impact.

DeepSeek's approach uses a limited number of reduced capacity chips from Nvidia, significantly lowering operating costs. This efficiency has allowed the company to offer premium models to consumers at lower prices compared to its competitors. The impact of DeepSeek's announcement was immediate and dramatic.

Nvidia, a major supplier of chips for AI development, saw its stock price plummet, losing 600 billion in market capitalization, the largest single day drop for a US company In history, this sell off reflected growing concerns that future AI models may not require the vast amounts of high end hardware that Silicon Valley has been stockpiling.

By the end of the trading day, the tech [00:04:00] heavy NASDAQ 100 stock market index had shed an astonishing 1 trillion from its Friday value. However, an interesting development emerged that highlights the potential broader economic impact of more affordable ai, while the standard s and p 500 index, which is heavily weighted towards large tech companies, closed in negative territory, the s and p 500 equal weight index.

Actually ended the day in positive territory. This divergence is significant. The equal weight index gives the same importance to each company in the S& P 500, regardless of its market capitalization. It's positive performance suggests that while tech giants took a hit, many other sectors and smaller companies saw gains.

This could be interpreted as the market recognizing the potential benefits of more accessible and affordable AI technology across various industries. The implications of more affordable AI extend far beyond the tech sector. In healthcare, for instance, cheaper AI models could accelerate drug discovery [00:05:00] processes, potentially reducing the time and cost of bringing new treatments to market.

Smaller research institutions and biotech startups might gain access to powerful AI tools previously out of reach due to high costs. In agriculture, more accessible AI could help farmers optimize crop yields and reduce resource usage. AI powered systems could analyze soil conditions, weather patterns, and crop health

more affordably. Making precision agriculture techniques available to a broad range of farms, including smaller operations. The manufacturing sector could also benefit from more cost effective AI solutions. Predictive maintenance, quality control and supply chain optimization can become more widespread potentially improving efficiency and reducing waste across various industries.

In education, cheaper AI could lead to more personalized learning experiences. Schools with limited budgets might be able to implement AI driven tutoring systems, helping to address individual student needs more effectively.

While the long term [00:06:00] implications of DeepSeek's breakthrough are yet to be fully understood, it's clear that this development has raised questions about the sustainability and efficiency of current AI development practices.

The ability of a relatively small Chinese startup to compete with tech giants on performance while significantly undercutting them on cost has caught many by surprise. As we move forward, AI industry respond to this challenge. Will they find ways to increase efficiency and reduce costs? Or will we see a shift in the balance of power in AI development?

In conclusion, deeps seeks emergence represents a potential turning point in the AI industry. It challenges our assumptions about the resources required for cutting edge AI development and may lead to more accessible and cost-effective AI solutions across various sectors of the economy.

The positive performance of the Equal Weight S& P 500 Index on a day when tech giants stumbled suggests that the market sees potential benefits for a broad range of [00:07:00] companies. As always, in this fast paced world of technology, we'll be watching closely to see how this story unfolds and its broader impact on industries beyond tech.

Now, a word from today's sponsor.

 Today's episode is brought to you by Diversification. Ever wondered how professional chefs create mind blowing flavor combinations? Your investment strategy could learn a thing or two from their secret sauce. Today, we're cooking up something special. It's called diversification and it's the secret ingredient to a mouth watering investment strategy.

Picture a master chef in their kitchen. They're not just tossing one ingredient in a pot and calling it a day. No way! They're carefully blending flavors, textures, and colors to create a dish that's greater than the sum of its parts. That's exactly what diversification does for your money. It's about mixing different investments, maybe some steady blue chip stocks, a dash of bonds for stability, and a sprinkle of real estate for extra zest.

Why go through all this trouble? Because just like a perfectly balanced dish, a well diversified [00:08:00] portfolio can handle the heat when the financial markets start boiling over. 

With diversification, you're not just investing, you're crafting a financial feast that'll have your future self coming back for seconds.

 Let's begin by exploring traditional IRAs, a popular retirement savings vehicle that offers tax advantages to help you build your nest egg. These accounts are designed to encourage long term savings by providing tax benefits up front and allowing your investments to grow tax deferred over time.

One of the primary features of a traditional IRA is its tax deferred nature. This means that you may be able to deduct your contributions from your taxable income in the year you make them, potentially lowering your current tax bill. However, it's important to note that eligibility for these tax deductions depends on factors such as your income level and whether you and your spouse are covered by a retirement plan at work.

As your investments grow within the account, you won't owe taxes on the gains, dividends, You withdraw the money in retirement. For 2025, [00:09:00] the annual contribution limit for traditional IRAs is 7, 000 if you're under 50 years old and 8, 000 if you're 50 or older, thanks to catch up contributions.

These limits apply to the total contributions across all your IRAs, including both traditional and Roth accounts. It's worth noting that you must have earned income to contribute to an IRA and your contributions can't exceed your earned income for the year. When it comes to withdrawals, Traditional IRAs have specific rules you need to be aware of.

Generally, you can start taking penalty free distributions once you reach the age of 59 and a half. If you withdraw money before this age, you may face a 10 percent early withdrawal penalty, in addition to owing income taxes on the distribution. There are some exceptions to this rule, such as using the funds for a first time home purchase or qualified education expenses.

On the other end of the spectrum, traditional IRAs are subject to required minimum distributions. Also known as RMDs, [00:10:00] starting at age 73. This means you must begin withdrawing a certain amount each year, even if you don't need the money to ensure you're paying taxes on your tax deferred savings.

As you approach retirement, it's essential to consider the tax implications of your traditional IRA withdrawals. Since you received a tax break on your contributions and enjoyed tax deferred growth, all distributions from a traditional IRA are taxed as ordinary income in the year you take them out.

This could potentially push you into a higher tax bracket in retirement, depending on your other sources of income. Understanding these tax considerations is crucial for effective retirement planning and managing your overall tax liability in your golden years. Now let's turn our attention to Roth IRAs, which offer a different approach to retirement savings compared to traditional IRAs.

The key distinction lies in how these accounts are taxed. Unlike traditional IRAs, contributions to Roth IRAs are made with after tax dollars. This means you won't get an immediate tax deduction for your contributions, [00:11:00] but the trade off is potentially significant. The main appeal of Roth IRAs is their tax free growth and withdrawals in retirement.

Once you've contributed to a Roth IRA, your investments grow tax free within the account. When you reach retirement age, 59 and a half or older, and have held the account for at least 5 years, you can withdraw both your contributions and earnings without paying any additional taxes. This tax free treatment in retirement can be particularly advantageous if you expect to be in a higher tax bracket in your later years. It's important to note that Roth IRAs have income limitations for contributions for 2024. Single filers with a modified adjusted gross income below $146,000 can contribute the full amount.

While the ability to contribute phases out completely at 161, 000. For married couples filing jointly, the phase out range is between 230, 000 and 240, 000. These income limits can make Roth IRAs [00:12:00] inaccessible for high earners, although there are strategies like the backdoor Roth that can potentially circumvent these restrictions.

One of the most flexible features of Roth IRAs is the ability to withdraw your contributions. but not your earnings at any time without penalties or taxes. This can provide a financial safety net, although it's generally advisable to leave the money invested for retirement. Additionally, Roth IRAs are not subject to required minimum distributions, again known as RMDs, during the owner's lifetime, allowing your money to continue growing tax free as long as you choose.

This feature makes Roth IRAs a powerful tool for estate planning. As you can pass your tax free assets to your heirs, in my opinion, the greatest tool to build generational wealth at our disposal, shifting our focus to brokerage accounts. We find a different type of investment vehicle that offers unique advantages and considerations. Unlike retirement accounts. Brokerage [00:13:00] accounts are funded with after tax dollars and don't come with a specific tax advantage for contributions. However, they provide unparalleled flexibility in terms of contributions, withdrawals, and investment options.

One of the most attractive features of brokerage accounts is the absence of contribution limits. You can invest as much as you want. Whenever you want without worrying about annual caps or income restrictions. This makes brokerage accounts particularly useful for investors who have maxed out their retirement account contributions or want to save for goals outside of retirement. Additionally, there are no age restrictions on when you can access your money, allowing you to use these funds for any purpose at any time without incurring penalties.

When it comes to taxes, brokerage accounts operate differently from retirement accounts. As you buy and sell investments within the account, you'll need to report any capital gains or losses on your tax return. Short term gains from investments held for less than one year are taxed at your ordinary income tax rate, while long term gains from investments held for more [00:14:00] than a year are typically taxed at lower preferential rates.

It's worth noting that you'll also owe taxes on any dividends and interest earned in the account in the year they're received. Even if you reinvest them, brokerage accounts offer several advantages. They provide access to a wide range of investment options, including individual stocks, bonds, mutual funds, exchange traded funds, and more.

This diversity allows for greater control over your investment strategy and potential for higher returns. Furthermore, the ability to realize capital losses can be used to offset gains and potentially reduce your tax liability. A strategy known as tax loss harvesting. As we wrap up our exploration of traditional IRAs, Roth IRAs, and brokerage accounts.

It's clear that each investment vehicle offers unique advantages and considerations. Traditional IRAs provide upfront tax benefits and tax deferred growth, making them attractive for those looking to reduce their current tax burden. Roth IRAs, on the other hand, offer tax free [00:15:00] withdrawals in retirement and greater flexibility.

which can be particularly valuable for those expecting higher tax rates in the future. Brokerage accounts, while lacking specific tax advantages, provide unparalleled flexibility in terms of contributions, withdrawals, and investment options. They serve as an excellent complement to retirement accounts, allowing investors to pursue a wider range of financial goals.

The key takeaway is that there's no one size fits all solution when it comes to investing for your future. The best approach often involves a combination of these account types, tailored to your individual financial situation, goals, and tax situation. By understanding the nuances of each option, you can make informed decisions that optimize your financial advisor or tax

professional to determine the best mix of accounts for your unique circumstances. By leveraging the strengths of each account type, you can create a robust and flexible investment portfolio that serves you well throughout your financial journey.

Thank you for joining [00:16:00] me on this episode of the Melby Money Show. If you have any questions you'd like me to answer on the show, you can email them to shaun@melbymoney.com. It would be an honor if you subscribe to the podcast, so future episodes show up in your feed if you feel compelled to leave a reviewer rating.

I'd appreciate that as well as getting feedback will only help make this podcast the best it can be. If you've enjoyed the episode so far, feel free to tell a friend about the show. Farewell, and I'll see you on the next episode of the Melby Money Show. [00:17:00]