Investing involves more than just picking the next Amazon; it all begins with establishing the correct type of account to suit your particular situation. The choices are numerous and choosing wisely is important, so here is a look at the options.
A brokerage account is in many ways similar to a traditional bank account but provides for holding virtually any financial security including stocks, bonds, mutual funds and ETFs. Investors can also purchase derivative securities like options and futures contracts in a brokerage account.
The first consideration is how to title the account, a decision which establishes certain conditions, limitations and rights.
It is typical for married couples to establish joint accounts for their non-retirement assets. Which flavor of joint account depends upon specific objectives and estate planning considerations.
Joint Tenants: The most common title for spousal accounts is called Joint Tenants with Right of Survivorship (JTWROS). The main feature of this structure: share and share alike. All assets are the property of all account holders (tenants), in equal proportion. Although usually between husband and wife, there can be more than two holders including non-spousal tenants.
Any party to the account may enter into transactions on behalf of all, including withdrawals and transfers, without permission of the other parties. It is not uncommon for older couples to include a trusted family member as a joint tenant to provide a backup in the event a decision must be made outside the capability of the parents. This is permissible, but may have tax consequences for the non-spousal party and should be evaluated by a tax adviser.
Creditors may access all the assets in that type of account when pursuing claims against any individual account holder.
The real advantage of a JTWROS account is the ease of inheritance. Assets pass directly from the decedent to the remaining tenants pro rata, do not pass through probate, and ignore any instructions in the deceased party’s will.
Tenants by the Entirety: Similar to JTWROS, this joint account passes pro rata to surviving holders upon death of one party, outside of probate and regardless of the will.
Creditor claims here are limited to claims against assets specifically obtained by all holders simultaneously, offering slightly more protection.
The distinguishing feature of the Tenants by the Entirety structure is the need for all parties to approve transactions, including withdrawals and transfers.
Tenants in Common: This structure is often used for business accounts involving multiple partners. It differs from the other joint accounts in that each individual’s pro rata share of the assets is distributed according to instructions in the decedent’s will, and not passed to the joint holders. All assets are subject to creditor claims.
Transfer on Death (TOD): Often added to individual or JTWROS accounts, a TOD provision allows account holders to name beneficiaries (similar to IRA accounts). If only one holder remains, the assets bypass probate and flow directly to the beneficiaries. For JTWROS accounts, the TOD provision is invoked if all holders die simultaneously. A surviving spouse still inherits and may choose to retain the TOD beneficiary designation, or is free to amend or eliminate such designation at will. This is an underutilized tool that should be considered as an alternative to potentially costly probate proceedings.
Unless an irrevocable trust has been established, these designations may be altered or revised. It is important to review arrangements as circumstances change (death, remarriage, divorce etc.). A little diligence in advance can save a peck of frustration later on.
Selecting the right type of account is the first step in building a portfolio and deserves appropriate attention.
Christopher A. Hopkins, CFAVice President and Portfolio Manager
Barnett & Company