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Hi there! I'm a financial planner for therapists!

Is investing ever a tax deduction?

Published almost 2 years ago • 1 min read

Hi Reader!

Have you ever wondered if stock market investing might be a tax deduction?

This answer is yes — if you’re investing within the right type of account.

Understanding the different types of investment accounts is a little complicated (and a bit dry). And yet this information is really quite important! It's the type of foundational knowledge that will prevent you from getting confused and overwhelmed down the road.

Two Categories of Accounts

There are two different categories of accounts.

The two main categories of accounts are taxable accounts and tax-advantaged accounts.

To understand the difference between these two categories (and why it’s important) first you need to understand the two different types of income you receive from investments.

Two Types of Income from Investing

Let’s say you’re following a prudent investing strategy and make an investment in a highly diversified, passively managed mutual fund. You purchase $1,000 worth of shares in that mutual fund. Several years later you sell your shares - and you’ve done well: those shares are now worth $1,200.

You’ve made $200 in profit - great! That’s what’s known as a capital gain. Capital gains are the first type of investment income.

Chances are you’ve also earned some additional income along the way. Each year, you likely received payments for things like interest, dividends and capital gain distributions. These “periodic distributions” are the second type of investment income.

Together these are the two types of investment income: capital gains and periodic distributions.

And what does the government do to income you make? They tax it!

Each year you receive those profit distributions, you’ll need to pay income tax on the profits you’ve received. And in the year you sell your investment, you’ll need to pay income tax on any capital gain gain you’ve realized (that’s the $200 profit in our example).

But wait! You don’t always have to pay the taxes as I’ve just described them.

The tax consequences I’ve described are what happens when you invest in a taxable account. But you can also invest through a tax-advantaged account - where you might not ever have to pay these taxes.

Four Account Types

There are four different account types.

  1. “Ordinary” brokerage accounts (these are taxable accounts)
  2. Traditional retirement accounts (one type of tax-advantaged account)
  3. Roth retirement accounts (the second type of tax-advantaged account)
  4. Hybrid tax-advantaged accounts (other ‘flavors’ of tax-advantaged accounts)

But we've already covered (more than) enough for one day! Next week, I'll dive into details on each of these four different types of investment accounts.

As always, if you have any questions about what I've covered today — or anything else happening in your financial life — HIT REPLY and ask away! I read and respond to every email.

Best,
Dave

Hi there! I'm a financial planner for therapists!

David W. Frank

I help therapists navigate every element of their financial lives: from understanding your practice P&L and building a personal budget to managing student loan debt and investing for retirement... and everything in between. But don't let my love of the tax code and spreadsheets scare you off! You're just as likely to find me with my nose buried in one of Pema Chodron's books as reading up on the latest financial planning techniques.

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