What Is a Brokerage Account? Definition, How to Choose, and Types

A brokerage account is an investment account held at a licensed brokerage firm. An investor deposits funds into their brokerage account, and the brokerage firm transacts orders for investments such as stocks, bonds, mutual funds, and exchange-traded funds (ETFs) on their behalf.

The assets in investment accounts belong to the investors, who normally must report the income derived from the account on their taxes.

Key Takeaways

Investors have different financial and investment needs and should choose their brokerage firms accordingly.
Investors who desire advisory services may benefit from a full-service brokerage firm, which charges higher fees than other brokerages.
Full-service firms charge either a flat fee based on the size of the account or commissions on the trades that they execute.
Online brokerages charge lower fees and may suit investors who wish to conduct their own research, trades, and other account transactions.
Robo-advisors offer financial planning, investing, and portfolio management using algorithms and minimal human intervention.

Understanding Brokerage Accounts

There are several types of brokerage accounts and brokerage firms, giving investors the chance to choose the model that best suits their financial needs.

Some full-service brokers provide extensive investment advice and other services but charge high fees. On the other end of the compensation spectrum, most online brokers provide a secure interface through which investors can place trade orders. They charge relatively low fees for this service. Robo-advisors are digital platforms that offer financial planning and investment services driven by algorithms, not people. Typically, they are low cost and require low account opening minimum amounts.

Brokerage accounts may differ in terms of order execution speed, analytical tools, the scope of tradable assets, and the extent to which investors can trade on margin.

For any type of brokerage, the most basic account is a cash account. This allows you to buy investments using the money deposited in the account. However, you can't sell short, buy on margin, trade options, or take advantage of other more sophisticated products. To do so, you need a margin account.

With a margin account, you can borrow money from your brokerage for additional purchases. The securities in your account serve as collateral. The brokerage charges regular maintenance interest on this loan, and it may request additional money from you immediately if the securities in the account lose too much value. This request is known as a margin call. If you can't meet a margin call, your broker may sell your securities.

Types of Brokerage Accounts

Full-Service Brokerage Accounts

Investors seeking the expertise of a financial advisor can consider full-service brokerage firms such as Merrill, Morgan Stanley, Wells Fargo Advisors, and UBS, among others. Financial advisors are paid to help their clients develop investment plans, execute their transactions, monitor their investments and the markets, and more. Financial advisors work on either a nondiscretionary basis, where clients must approve transactions, or on a discretionary basis, where transactions don't require prior client approval.

Full-service brokerage accounts charge either commissions on trades or advisor fees. A commission account generates a fee anytime an investment is bought or sold, whether the recommendation came from the client or the advisor, and whether the trade is profitable.

By contrast, an advisor fee account involves flat annual fees ranging from 0.5% to 2% of the total account balance. In exchange for this fee, no commissions are charged when investments are bought or sold. Investors should discuss compensation models with financial advisors at the onset of relationships.

Do-it-yourself traders should be careful about trading low-volume stocks, which may not have enough liquidity to allow investors to enter or exit positions easily.

Discount Brokerage Accounts

Investors who favor a do-it-yourself investment approach might consider a discount brokerage firm. These firms charge significantly lower fees than their full-service counterparts. However, discount brokerage firms, such as Charles Schwab (SCHW), Fidelity (FIS), and E*Trade (ETFC), offer fewer services in exchange for these lower fees. This may suit investors who are most concerned with keeping costs low and executing trades via easy-to-use online trading platforms.

For example, an investor who decides on a typical discount broker can expect to open a regular taxable brokerage account (or retirement account) with a $500 minimum required amount. Little or no commission is charged to buy or sell most stocks, options, or ETFs. Some discount brokers may charge fees for non-U.S. or thinly traded stocks, but this varies from broker to broker.

The purchase of Treasury bonds typically involves no commission (but bonds traded in the secondary market may). Many brokers, including Schwab, Fidelity, and E*TRADE, also offer a wide variety of mutual funds for no transaction cost.

Robo-Advisor Accounts

Robo-advisors are accounts where they, not the account holder, select the investments using algorithms without human participation. Moreover, those investments are usually restricted to mutual funds or ETFs. The cost can be around 0.25% of assets under management per year. The minimum required to open an account can range from $0 to $500 to over $5,000. Robo-advisors might be right for people new to investing and experienced investors who prefer a hands-off approach to portfolio management.

Brokerage Accounts With a Regional Financial Advisor

Those investors who prefer a personal relationship and a choice of services may also want to work with a brokerage firm that's part of their community. They could consider a regional firm that falls between full-service and discount brokerage firms on the cost scale. Such companies include Raymond James Financial Inc. (RJF), Janney Montgomery Scott, and Edward Jones.

These brokerages act as broker-dealers and financial advisors. They can require a sizable minimum account size and cater to individuals with slightly higher net worth than other brokerages. Over time, though, their services tend to be less expensive than those of larger, full-size brokerages.

Online Brokerage Accounts

Online brokerages are a good choice for investors who prefer to select their own investments and execute their own trades via a website or mobile app. However, many also offer research and analysis tools to help investors make informed decisions. Many charge commission on each transaction. Some charge no commissions.

Robinhood Markets Inc. (HOOD) is an online broker that offers commission-free trading on stocks, ETFs, and options. The firm generates its revenue from payment for order flow (PFOF), margin interest, income from cash holdings, and more. PFOF is the compensation a brokerage receives for directing trades to a specific market maker. The amount paid is usually a fraction of a penny per share.

Other zero-commission brokers include Charles Schwab, Fidelity, E*Trade, and Vanguard.

Cash Brokerage Accounts

A cash brokerage account requires you to deposit cash to start trading. This account limits your options to the basics such as purchasing stock. For example, short selling a stock is not possible within cash accounts. Cash accounts can be either discount or full-service accounts.

Margin Accounts

A margin account allows you to borrow money to start trading. The broker acts as a lender, and the borrowed funds allow for larger trades and more advanced trades, such as short-selling a stock. The investor pays interest on the loaned amount of money. The brokerage may demand an immediate deposit of funds from an investor if the value of their account drops below a specific level because of market changes.

Margin accounts can also be discount or full-service brokerage accounts. While a margin account offers you more flexibility, there is some risk involved. If you are new to investing, it's best to stick with a cash account at first.

To choose the best brokerage for your needs, consider your investing style, your short- and long-term goals, the types of investments you seek, and the level of service and support you want. Cost may drive the choice for some novices or highly experienced investors.

Are Brokerage Accounts Safe?

Yes, brokerage accounts are generally a safe place to keep your money. However, that doesn't mean that they're without risk.

The Securities Investor Protection Corporation (SIPC) is a nonprofit organization that provides coverage to investors in case their brokerage firm faces financial difficulties or goes bankrupt. The SIPC safeguards customers' assets, including cash and securities like stocks and bonds, held within a brokerage account at an SIPC-member firm.

The protection offered by SIPC is limited to $500,000 per customer per brokerage firm. This coverage includes up to $250,000 protection for cash within the account. It's important to note that SIPC protection does not cover investment losses because of market fluctuations or poor investment decisions. Instead, it focuses on protecting customers' assets in the event of a brokerage firm failure or misconduct. Most brokerage firms in the U.S. are members of SIPC, providing their customers with this added layer of protection for their investments.

Even with SIPC protection, consider the risks and only invest money you're willing to lose.

How to Choose a Brokerage Account

When opening a brokerage account, don't settle for the first one you find. It's essential to ensure you choose the right one.

The first step to choosing the right brokerage account is to consider your needs.

Are you an active or passive investor? Are you looking to focus only on mutual funds, ETFs, stocks, bonds, other securities, or a combination of all the above? Do you mainly plan on making basic market orders, or do you want more advanced order types?

Some brokers focus on different types of investors. One might have features that appeal to buy-and-hold investors who mostly want to buy mutual funds and ETFs. Others will have features that appeal to frequent traders and people who are interested in things like options.

Once you've considered your needs, you can compare different brokers to see what they offer and how those services align with what you're looking for.

How to Open a Brokerage Account

Opening a brokerage account is a simple process that takes just a few minutes. Once you’ve selected a firm and the type of account you want to open (taxable or tax-advantaged), get the following personal information ready:

Your Social Security number (or tax identification number)
Your driver’s license, passport, or other government-issued ID
Employment information
Financial data (e.g., annual income, net worth)

The setup process will include questions about your financial needs, investment goals, investing style, and risk tolerance.

You’ll need to fund your account once you’ve created your profile and your account is open.

To open an account, you must first choose a brokerage that suits your needs. If you’re still unsure, step back and consider, for instance, whether you’re an engaged investor who follows the markets daily. Or someone who wants to leave that to others. Do you take a conservative (income-focused) or aggressive (growth-focused) approach to investing? Are you investing for short-term goals or retirement? How easy is it to use a broker’s website? Understanding such topics can help you choose a firm and decide whether to open a taxable brokerage account or a tax-advantaged retirement account.

Standard Brokerage Account vs. IRA Brokerage Account

Investors can open a standard brokerage account and an individual retirement account (IRA). In fact, you can open an IRA even if you already have a workplace retirement plan, such as a 401(k). It's a good idea because it gives you an additional tax-advantaged opportunity to save for retirement.

Knowing the difference between a standard brokerage account and an IRA account opened at a brokerage can help you decide whether you should open one or the other—or both.

Standard Brokerage Account vs. IRA Brokerage Account

Standard Brokerage Account

Investments are taxed
You can deposit and withdraw funds as often as you like and with no limit on deposits
Deposits are not tax deductible
You can invest in any securities offered by your brokerage.
Used for all kinds of purposes, e.g., to build wealth over the long-term and reach short-term financial goals, such as buying a home.

IRA Brokerage Account

Investments are tax-advantaged
Deposits are limited by an annual contribution limit and withdrawals incur tax penalties until you reach 59 1/2.
Traditional IRA contributions are tax deductible but withdrawals are taxed as income. Roth IRA contributions aren't, but withdrawals are not taxed.
Earnings in an IRA grow undiminished by taxes.
You can invest in a wide range of securities offered by your brokerage.
Used to invest for long-term retirement savings goals.

How Do I Open a Brokerage Account?

Opening a brokerage account online is a relatively quick and easy process. You have to register on the brokerage site and provide some required personal information such as your address, date of birth, and Social Security number. Account approvals happen fast, and the next step is to fund your new account, which can also be done online via the Automated Clearing House or wire transfer.

Is It Dangerous To Have a Margin Account?

A margin account involves more risk than a cash account, where you buy shares of stock with your own money. A margin account is dangerous if you borrow too much and the market turns against you, resulting in losses. If you are unable to meet a margin call requiring you to add additional money to the account, your broker may sell any securities in your account to meet the call.

Can I Have Multiple Brokerage Accounts?

Yes, although there are pros and cons to having your assets invested in several places. You can have multiple accounts at a single broker. Or you might choose to, for example, use one broker for long-term investing and another for trading or short-term plays.

Which Brokerage Accounts Let Me Trade for Free?

Since Robinhood opened the doors to commission-free trading, dozens of online brokerage platforms have followed suit. These include major names such as Schwab, E*TRADE, and Fidelity. Some fees other than trading commissions may apply.

How Does a Brokerage Account Differ From a Bank Account?

Brokerage accounts hold securities such as stocks, bonds, and mutual funds and some cash. A bank account only holds cash deposits. A bank account lets you write checks and use a debit card. Some brokerage accounts also provide a debit card and allow you to write checks. Many bank accounts are FDIC-insured for up to $250,000. Brokerage accounts usually have SIPC protection, which can help recover some value of such accounts if a brokerage goes under.

The Bottom Line

A brokerage account is an investment account that investors open at a brokerage firm and use to buy and sell investment securities. They can be a key to wealth-building.

Brokerage accounts can be used to purchase, hold, and sell stocks, bonds, mutual funds, ETFs, and more. Investors can open a standard brokerage account and an IRA brokerage account, in addition to having a retirement plan at work, to maximize their saving and investing opportunities.