Can I buy ETFs for my Roth IRA?
A Roth IRA held at a brokerage firm is able to facilitate the purchase of exchange-traded funds, or ETFs. Using ETFs within your Roth IRA can be an inexpensive and effective investment for retirement savings. The returns you see from using carefully selected ETFs are magnified by the tax-free growth afforded by the Roth IRA.
Types of ETFs
ETFs are a great investment choice to build a solid portfolio, because they have lower fees than traditional mutual funds but can offer anything from broad diversification to very specific sectors in the market. For example, there are index ETFs that track a specified index such as the S&P 500, representing the performance of the U.S. stock market. There are also tactical allocation ETFs managed by professionals which provide a dynamic portfolio in one fund that seeks to adjust to ever-changing market conditions.
Creating leverage within a Roth IRA can be next to impossible with investment restraints on retirement accounts. Purchasing a leveraged ETF within the Roth IRA, however, solves this problem.
Choosing the best ETFs for retirement can be challenging. ETFs can simplify the task of investing, because they trade like a stock during market hours and provide smaller investors access to a basket of many stocks through one product. When building your portfolio with ETFs in your Roth IRA, you may want to choose more aggressive, growth-oriented funds knowing the earnings are tax free in the present time and in retirement.
If you are nearing retirement or are already retired, you may want to choose ETFs with high income distributions. These could be distributed to you as a retirement income without tax.
Yes, most financial institutions will allow you to purchase Exchange Traded Funds (ETFs) in your Individual Retirement Account (IRA), Roth or Traditional. In addition to ETFs, there are a variety of products that you’re most likely allowed to purchase within your Roth IRA such as stocks, bonds, mutual funds, and annuities.
It seems as though you’ve set your sights on investing in ETFs specifically so a good first step is to ask yourself a few questions:
- What are your financial goals?
- What is your risk tolerance?
- When do you plan to retire?
Once you’ve answered these questions a financial advisor can help you select which investments fit your risk tolerance, time horizon, and financial goals. If you would like to learn how a financial advisor can assist you in this process, click here for more information.
YES…ETFs can be a great asset in a Roth IRA – especially if they offer long-term growth and/or are less tax efficient (such as MLPs or High Yield Bonds) and would be less appropriate for a taxable brokerage account.
In fact, ETFs can be a great way to get exposure to certain types of assets and strategies that you wouldn't be allowed to do directly within a tax-favored retirement account.
Getting access to ETFs in a Roth IRA
Not all financial institutions give you access to ETFs in their Roth IRAs. Banks, for instance, typically limit you to products like certificates of deposit. To buy ETFs, you'll need to open your Roth IRA with a brokerage firm. My firm uses both Charles Schwab and Fidelity and both firms offer NO TRANSACTION COST ETFs (they don’t even charge their typical $4.95 per trade on certain ETFs).
Why ETFs in a Roth IRA can be especially useful
Any investment in a Roth IRA can give you tax-free income, which helps you save on your taxes in retirement. But for investors who want to use complex investing strategies, ETFs are sometimes the only way to get access to them in a Roth IRA.
For instance, selling stocks short in a Roth IRA isn't typically allowed. However, you can buy certain ETFs that are designed to move in the opposite direction as a stock market index or other benchmark. These inverse (or short) ETFs give you similar returns to short-selling, because their share prices go up when the underlying index goes down. However, please be careful using inverse (or leveraged, see below) ETFs if your plan is to hold them for a long time as they tend to not track the inverse (or multiple) of an index over the long run.
Also, Roth IRAs don't allow you to trade on margin, and so you can't use your retirement account to make leveraged trades. You can buy shares of leveraged ETFs that offer a multiple of the daily returns on a particular type of investment, and that will give you many of the same return characteristics that buying a fund on margin would give you.
Using a Roth IRA to invest gives you a number of advantages (and should be considered when comparing your option to a Traditional vs. Roth IRA), the most important of which is that any growth coming either from investment income or from share-price appreciation is free of tax, even when you start taking withdrawals in retirement. By tapping into the profit potential of ETFs, you can make the most of a Roth IRA opportunity, and get started on producing the long-term returns you'll want in order to reach your financial goals.
Yes, you can purchase Exchange Traded Funds (ETFs) in your Roth IRA. The list of prohibited investments includes:
- Life insurance
- S-Corp stock
- Coins and precious metals (except for certain U.S. coins and bullion)
ETFs are investments traded on stock exchanges that hold assets such as stocks, bonds, and commodities. They have traditionally been index funds and have similar valuation features to mutual funds and Unit Investment Trusts (UITs). However, ETFs are different to mutual funds in the respect of not having a fund manager and are traded on an exchange. Also, expenses are typically less and are more tax efficient (no unexpected capital gains).
If you have any further questions, I'd be happy to help.
In general, the answer is yes, and that applies equally to Roth and traditional (pre-tax) IRAs. But whether you can currently buy ETFs in your IRA depends on where your Roth IRA is located. To buy ETFs, you must have a brokerage account. So, for example, if your Roth IRA is with a bank, you could be restricted solely to deposit products like CDs and Money Market Deposit Accounts. Likewise, if your Roth IRA is with a mutual fund company that only offers traditional open-end mutual funds, you would not be able to buy ETFs in your Roth IRA. If you are not currently able to buy ETFs in your Roth IRA, you could easily transfer your IRA to a brokerage firm that would offer ETF trading, for example, Fidelity Investments, Charles Schwab or TD Ameritrade.
But you should also consider whether ETFs are actually a good idea or necessary for your IRA. I think a strong argument can be made that traditional open-end mutual funds (e.g, Vanguard) provide all the options you could possibly need in a Roth IRA. Conversely, some of ETFs' advantages, such as the ability to trade in and out during market hours, could be hazardous in the hands of inexperienced investor.