Brokerage accounts allow investors to buy and sell numerous types of investments. When opening a brokerage account, investors have two main options: a cash account or a margin account. The difference between them is how and when you pay for your investments.
As the name suggests, when you buy securities with a cash account, you must do so using cash, paying for the purchase in full. If you want to buy $1,000 worth of stock, you must have $1,000 in cash in your account before your buy order settles, which is generally two days after you place the order.
A margin account allows you to borrow money from a brokerage firm to buy securities. This is also the only type of account in which investors can engage in short selling. In a margin account, you deposit a portion of the purchase price of the security in the account and borrow the rest from the firm. There are a number of noteworthy risks that come with investing on margin, so be sure to read more about margin accounts before you proceed.
If you already have a brokerage account but aren't sure which type of account you have, contact your firm. Regardless of your account type, always read your brokerage account statements and review them carefully for accuracy.
Opening An Account
Opening an account with a brokerage firm doesn’t take long, but it does require a few more steps than, say, opening a bank account. Once you select a brokerage firm, the firm must obtain certain information about you to open your account. If the firm is going to make investment recommendations to you, it will use this information to determine the type of investments that may be in your best interest.
Firms will ask for your age, employment status, other investments, financial situation and needs, tax status, investment experience and objectives, investment time horizon, liquidity needs and tolerance for risk. They’ll also ask for your Social Security or other tax identification number because, like banks, credit unions and other financial institutions, brokerage firms must report to the Internal Revenue Service the income you earn on your investments. In addition, under the USA PATRIOT Act of 2001, financial institutions may use your Social Security number, as well as your driver’s license, passport information or information from other government-issued identification, to verify your identity to help prevent money laundering and terrorist financing.
Note that the terms used to describe investment objectives often vary across firms and new account applications. If you don't understand the distinctions among the terms, request more explanation or examples.
If you use an online brokerage firm or mobile platform, this information-gathering likely won’t involve an actual financial professional. It’s important that you be honest with your answers. If you lack investment experience, or if you truly can’t afford to lose money, don’t be afraid to say so.
Your new account application may come with other documents, such as a "Customer Agreement," "Terms and Conditions" or the like. These documents, along with applicable state and federal laws and SEC and FINRA rules, govern your customer relationship with the firm, so it’s a good idea to read them.
Brokerage account fees vary, as do the products and services a firm offers. You can learn a lot about a firm’s services and other key information by reading its Customer Relationship Summary, or Form CRS for short, which you should receive before or at the time you open your new account.
Once you open your account, you’ll need to make a couple of additional decisions.
How do you want to manage your uninvested cash? Sometimes there’s cash in your account that hasn't been invested, such as money you just deposited or cash dividends or interest you received. Many firms give you choices on what to do with uninvested cash, including participating in the firm’s cash management program or “cash sweep” program. These types of programs offer different benefits and risks, including different interest rates and insurance coverage. Be sure to find out from your brokerage firm what your choices are and what fees, if any, you have to pay.
Who will make the final decisions for your account? You’ll have final say on investment decisions in your account unless you give "discretionary authority" in writing to another person, such as your financial professional. With discretionary authority, this person may invest your money without consulting you about the price, amount or type of security or the timing of the trades.
Some firms allow you to indicate who has discretionary authority over the account directly on the new account application, while others require separate documentation. There may be other types of authority that you can provide over your account, including a power of attorney and authorized trading privileges. Make sure you think through the risks involved in allowing someone else to make decisions about your money.