Planning to invest in gold but don't know how? Gold has long been regarded as a desirable commodity for investors seeking to diversify their portfolios or hedge against economic volatility. Because of this, various gold investment options have been introduced over the years.
What this essentially means is that you don't have to buy physical gold bullion to own gold! Instead, you can explore popular investment options like a gold IRA (Individual Retirement Account) or a physically-backed gold ETF (Exchange-Traded Fund). But which of these two investment options should you consider?
Since both gold ETF and gold IRA bring different advantages and disadvantages for their investors, it's important to understand which option best fits your requirements. To help you with that, this detailed guide will list the benefits, disadvantages, and differences between the two. Read on to learn more!
What is a Gold IRA?
Starting with one of the most common retirement investment options, a gold IRA (Individual Retirement Account), is a self-directed retirement account. This account allows investors to include genuine gold and other precious metals in their investing portfolio, such as gold, silver, palladium, and platinum. So, compared to traditional IRAs, gold IRAs allow you to invest in precious metals and diversify your retirement portfolio beyond the standard equities and mutual funds.
What's more? A Gold IRA account holder receives regular statements and updates on their holdings, and the physical gold is stored in a secure and authorized depository approved by the IRS. Of course, this means that you have to pay a yearly storage cost to the depository that will store, secure, and maintain your physical assets.
According to IRS regulations, you can seek physical ownership of these assets stored in a depository upon reaching the retirement age of 59 ½. So, when you reach retirement age, you must begin taking the required minimum distributions (RMDs), which are the annual amounts you must withdraw from your retirement funds.
Your RMD for a gold IRA can be a portion of your invested physical assets or assets of similar value. However, early withdrawals from a gold IRA, similar to a traditional IRA, are subject to tax penalties. Apart from this, gold IRAs also offer various tax advantages, such as tax-free or tax-deferred growth. Not to mention the option of passing down your assets in a gold IRA to heirs without incurring inheritance taxes.
What is a Physical Gold ETF?
A physical gold ETF is a tradable investment that allows you to hold gold bullion, bars, and coins in a vault. While it may sound similar to a gold IRA — since both investments promote physical asset storage at a third-party depository/vault — gold ETFs are more cost-effective.
This means you can access gold in this investment without incurring the storage and insurance fees associated with physical gold ownership. It does, however, have an expenditure ratio, which diminishes the value of the investment over time.
For tax purposes, gold ETFs are classified as collectibles. Long-term capital gains from the sale of gold ETF assets or shares in those assets are subject to a maximum federal income tax rate of 28%. This is greater than the typical maximum rate of 20% for stocks and other investments.
Key Differences Between Gold IRA and Gold ETF
While both are quite popular gold investment options today, both gold IRA and gold ETF have specific differences that make them ideal for different types of investors. For a clearer idea, let's go ahead and explore these differences in detail.
Tax Benefits
Firstly, let's explore the key difference between a gold IRA and a gold ETF: tax benefits.
Gold IRAs, like regular IRAs, offer tax advantages. The IRS allows investors to grow their savings without immediate taxes and deduct contributions from taxable income once they're 59 ½.
Physical gold ETFs, on the other hand, are classified as collectibles by the IRS, having their particular tax model. Profits from physical gold ETFs are subject to long-term capital gains tax of 28%. Other than this compulsory tax, physical gold ETFs don't incur additional taxes like sales tax, wealth tax, or VAT (value-added tax) that is paid when buying goods or services.
Fees and Costs
Speaking of differences, it's impossible not to mention the cost differences between a gold IRA and a gold ETF. A gold IRA comes with additional costs and fees compared to a physical gold ETF. For instance, investing in a gold IRA not only means investing in physical gold and other precious metals. Instead, it includes costs and charges for storage facilities and your custodian. These ongoing annual costs persist until you’re eligible to take physical possession of your IRA assets. It’s crucial to factor these costs into your decision before proceeding with the investment.
However, if you're not ready to pay all these additional charges for owning physical gold, you can always go with the cost-effective option of gold ETF. This type of investment only comes with brokerage, management, and trading charges. While you must pay management charges even for your physical gold in the ETF, it is relatively lower than a gold IRA storage fee. This makes it more affordable for small-budget investors.
Liquidity
Another key difference between the said investment options is their liquidity. This refers to how a gold IRA is less liquid than a gold ETF, mainly because it includes the sale and physical delivery of gold.
This can be expensive and time-consuming for IRA investors, making it difficult to liquidate gold when its price reaches a certain threshold for a limited time. In contrast, similar to stocks, you can easily purchase or trade a physical gold ETF on a stock market at any time of the day.
Advantages of Gold IRA
When considering a gold IRA investment, it's vital to grasp the benefits it offers. This helps in evaluating if it aligns with your investment objectives. Notable advantages of a gold IRA include:
Diversification
You know the saying, 'Don't put all your eggs in one basket'? This is a great approach to consider when investing, because all types of investment come with risks of losses. For instance, the volatility of the crypto market keeps its investors on the edge of making huge gains and equally huge losses at any point.
Suppose you add both physical gold and silver to your IRA account, and one of them witnesses a decline in its value. You will still have the other asset to keep your retirement portfolio stable. Moreover, since gold is not positively correlated with the stock market, if your stocks fall, you have gold to rely on to maintain your wealth.
Inflation Hedge
Investing in a gold IRA is also an excellent inflation hedge. Gold is a smart investment during high inflation since its price rises when the cost of living increases. In fact, gold prices have climbed during the last 60 years because fiat currency has lost purchasing power over time due to inflation.
And because gold is priced in those currency units, its value grows with everything else. As a result, investing in gold assets that can be accessed at retirement can help protect against inflationary pressures while allowing you to protect the value of your currency. This ensures you enjoy a financially stable future, even in a struggling economy.
Tax Benefits
As mentioned earlier, gold IRA investments also bring various tax benefits similar to traditional IRAs, including tax-deferred investment growth. This means that any gains produced within the account are not taxed immediately, allowing the investments to grow without being hampered by annual tax responsibilities.
Additionally, if you choose to set up a Roth IRA account for a gold IRA investment, you can enjoy tax-free eligible retirement withdrawals. This can be especially beneficial for people who expect to be in a higher tax band after retirement or anticipate higher future tax rates.
Long-Term Investment
The best part about investing in a gold IRA is that it is not liquid. While this limits you from accessing funds by liquidating your assets in times of need, you can rest assured that your gold IRA will back you up financially during retirement.
This makes it an excellent choice for long-term or buy-and-hold investing, allowing you to hold onto it for decades until retirement. Additionally, if you choose not to sell it, your heirs can inherit it, securing a financially stable future for your family.
Advantages of Gold ETF
Like a gold IRA, a physical gold ETF also introduces various benefits for its investors. These include:
Liquidity
Like stocks, physical gold ETFs can be traded on stock exchanges. Because they are a widely used investment, you'll typically find a readily available market of investors willing to purchase physical gold ETFs from you — ensuring their high liquidity. Likewise, you can always buy physical gold ETFs on these exchange platforms. So whenever the value of gold increases or decreases, you can benefit from it by buying or selling gold ETFs.
Lower Fees and Easy Trading
As mentioned earlier, investing in a Gold ETF comprises only brokerage, management, and trading costs. Moreover, physical gold ETF management expenses are as little as 0.2% to 0.8% per year, making it affordable for small-budget investors wanting to own physical gold. Because physical gold ETFs can be purchased in small amounts and traded like stocks, they are accessible to investors of all sizes, making it easier to trade and own even with limited investments.
Risks Associated with Gold IRA
Alongside its benefits, a gold IRA investment carries certain risks. To make informed decisions, it's important to be aware of these risks, just as you are with the benefits. What are these risks? Let's take a closer look:
Storage Risks
One significant concern linked with gold IRA investment is storage security. Precisely, you are entrusting your assets with a third-party depository that manages them for you until you are ready to seek their physical ownership. Here, if you don't dig deeper into the security offered by the depository, you risk losing your assets.
Moreover, such companies can also face robberies, putting your assets at risk of theft. Since you'll be storing your physical gold in these companies for decades, choosing an IRS-approved depository with a solid track record of offering unmatched asset security is crucial.
Illiquidity
As mentioned, a gold IRA involves selling and physically delivering gold or other precious metals. This makes gold IRA less liquid than other assets, mainly because the sale and delivery process of a gold IRA can take time and cost you additional fees. So, you can't make instant sale/purchase decisions with a gold IRA.
Fees and Costs
The cost of purchasing genuine gold and its storage and custodian fees are included in a gold IRA investment. Depending on the firm you invest with, storage and custodial fees range from $50 to $200 annually. With a limited investment budget or income, it can be hard to afford these annual costs associated with a gold IRA ownership.
Risks Associated with Gold ETF
If you plan to invest in a physical gold ETF, it's important to keep in mind the following risks associated with this investment:
Market Risks
Did you know that the price of gold can be unpredictable and sensitive to market swings? So, like any other investment, you can never be too familiar with gold's market fluctuations. And since a physical gold ETF focuses on trading gold, you must make instant buy/sell decisions on the preferred exchange platform. This introduces the volatility risk with gold ETF investments, resulting in unpredicted losses.
Tax Implications on Gains
According to IRS regulations, if your gain from a gold asset is short-term, it is taxed as regular income. However, if you make a long-term gain (one that lasts longer than a year), you will be taxed at a higher capital gains rate of 28%. You cannot utilize conventional capital gains tax rates on physical gold, silver, or platinum ETFs as they are collectibles, making gold ETFs have a higher long-term capital gains tax than stocks.
Tax Implications: Gold IRA vs. Gold ETF
Assessing the right investment choice can be challenging, particularly when gold IRA and gold ETF have distinct tax implications. If you're finding it difficult to make this evaluation, consult the comparison table below for guidance.
Aspect | Gold IRA | Physical Gold ETF |
|---|---|---|
Tax Advantages | Contributions to a Gold IRA are frequently tax-deductible, depending on your income and other retirement accounts. This can result in an instant tax benefit. | Investing in a physical gold ETF means you don't have to pay additional taxes like sales tax, VAT (value-added tax), or wealth tax. |
Capital Gains Tax | Profits from the sale of gold within a Gold IRA are typically tax-deferred. This means you won't pay taxes until you start withdrawing funds in retirement, potentially at a lower tax rate. | Investing in a Gold-backed ETF through a traditional brokerage account exposes you to a long-term capital gains tax of 28% on your returns. |
RMDs (Required Minimum Distributions) | Once you reach the age of 59 ½, you can start taking the required minimum distribution of RMD from your gold IRA in the form of a portion of physical gold ownership or the value of that portion. Income tax is levied on these distributions. Notably, if born before July 1, 1949, you will be eligible for RMDs at 70 ½. And if you were born after June 30, 1949, you must be 72 to seek RMDs. | There are no required minimum distributions in a physical gold ETF since you can buy or sell such assets at any time through a stock exchange. |
Frequently Asked Questions (FAQs)
It’s a matter of preference. Some prefer the convenience of not storing physical gold at home, while others trust having it in their possession. Regardless, a reliable brokerage or secure home storage can ensure safety in both options.
While real gold is a safer investment that preserves your wealth for years, we suggest you decide by asking yourself the following questions:
- What does my investment profile look like? How much is my risk tolerance, and what are my long-term financial objectives?
- Which performs better in the short and/or long run between real gold and gold ETF? Am I investing for short-term or long-term returns?
Once you have the answers to these questions, you can easily determine your ideal investment option. However, if you're still confused, we suggest consulting a financial expert.
Investing in a physically backed gold ETF (Exchange-Traded Fund) can be a realistic long-term investment plan. However, whether it's "good" depends on your financial objectives, risk tolerance, and overall investing strategy. To better evaluate that, we suggest you consult a financial expert before deciding.
Conclusion
Physical gold ETFs offer convenience and lower investment minimums, but they do not offer the same protection or tax benefits as gold IRAs. They also carry higher risks of losses. This makes gold ETFs better suited for short-term investors with a higher risk tolerance.
In contrast, gold IRAs offer more long-term protection and diversification benefits but have higher costs and storage concerns. Such investments are ideal for long-term investors with low-risk tolerance. If you are interested in a gold IRA, see this article on the top gold IRA companies in 2024.
This shows that gold IRAs and ETFs have unique properties, making both the ideal choice for different investors. Hence, we suggest you better understand your investment limitations and goals before proceeding with any investment options.
All in all, we hope this guide will help you make a more informed decision.