The Internal Revenue Service allows you to enjoy significant tax benefits through an individual retirement account. An IRA is designed to encourage long-term savings through a variety of tax breaks, including the ability to defer taxes until you take withdrawals. To enjoy such benefits, you must observe IRS rules regarding IRA investments. Generally speaking, you shouldn't have any trouble investing in stocks in your IRA.
Stocks in IRAs
In spite of the regulations, IRAs are pretty similar to regular investment accounts in terms of the investments allowed in the account. If you can buy or sell a stock in a regular account, you can also buy or sell it in your IRA.
The IRS prohibitions on IRA investments are limited to a list of transactions such as borrowing money from your IRA, using it as collateral or selling property to it. You must also avoid buying collectibles in your IRA, such as works of art, rugs, stamps and coins. Stocks are not on the list of restricted IRA investments.
Restriction on Shorting Stocks
If you think a stock will go down in value, you can profit from this by shorting the stock. When you short a stock, you borrow the stock from a financial firm and sell it on the open market. If the stock goes down, you buy it back at the lower price and return the borrowed shares. You cannot short stock in an IRA since you must use the IRA as collateral for the loan, which is a prohibited transaction.
Reinvesting Stock Sale Proceeds
The rules for investing the proceeds of a stock sale in an IRA are the same as if you were using new money. If you can avoid the list of transactions the IRS prohibits in an IRA, you can reinvest your proceeds from a stock sale into almost any type of investment, including stocks, bonds, mutual funds or other nonrestricted investments.
Taxes on Sales
One of the most advantageous IRS rules for IRAs is that you don't have to pay taxes on any of your stock sales in the year you sell them. For example, if you buy 100 shares of stock at $30 per share and sell them for $100, you have a $7,000 taxable gain. In a regular account, you'd have to pay capital gains tax on your profit if you held the stock for longer than a year. For shorter-term trades, you'd have to pay tax at your ordinary income tax rate, which could be considerably higher.
However, in an IRA, you don't have to pay tax on the transaction until you withdraw money from the account, at which point it is reportable as ordinary income. If you have a Roth IRA, you can usually avoid taxes on your withdrawals as well.