May
18
2024
What Is the Rule of 55? How It Works for Early Retirement

What Is the Rule of 55? How It Works for Early Retirement

By | Growing Wealth, invest, Investing | Comments Off on What Is the Rule of 55? How It Works for Early Retirement

The rule of 55 is a provision in the Internal Revenue Code that allows workers to withdraw money from their employer-sponsored retirement plan without a penalty once they reach age 55. Distributions are still taxable as income but there’s no additional 10% early withdrawal penalty.

The IRS rule of 55 applies to 401(k) and 403(b) plans. If you have either of these types of retirement accounts through your employer, it’s important to understand how this rule works when taking retirement plan distributions.

Key Points

•   The rule of 55 allows penalty-free withdrawals from employer-sponsored retirement plans for individuals aged 55 or older.

•   This rule applies to 401(k) and 403(b) plans, allowing early access to retirement funds without the usual 10% penalty.

•   To qualify, individuals must have separated from their employer at age 55 or older and leave the funds in the employer’s plan.

•   The rule of 55 does not apply to IRAs, and certain conditions and restrictions may vary depending on the specific retirement plan.

•   While the rule of 55 can be beneficial for early retirees, it’s important to consider tax implications and other factors before utilizing it.

What Is the Rule of 55?

The rule of 55 is an exception to standard IRS withdrawal rules for qualified workplace plans, including 401(k) and 403(b) plans. Normally, you can’t withdraw money from these plans before age 59 ½ without paying a 10% early withdrawal penalty. This penalty is only waived for certain allowed exceptions, of which the rule of 55 is one.

Specifically, the rule of 55 applies to “distributions made to you after you separated from service with your employer after attainment of age 55,” per the IRS. It doesn’t matter whether you quit, get laid off or retired — you can still withdraw money from your retirement plan penalty-free. If you’re a qualified public safety employee, this exception kicks in at age 50 instead of 55.

💡 Quick Tip: Before opening an investment account, know your investment objectives, time horizon, and risk tolerance. These fundamentals will help keep your strategy on track and with the aim of meeting your goals.

How Does the Rule of 55 Work?

The rule of 55 for 401(k) and 403(b) plans allows workers to access money in their retirement plans without a 10% early withdrawal penalty. This rule applies to current workplace retirement plans only.

You can’t use the rule of 55 to take money from a 401(k) or 401(b) you had with a previous employer penalty-free unless you first roll over those account balances into your current plan before separating from service.

This rule doesn’t apply to individual retirement accounts (IRA) either. So, you can’t use the rule of 55 to tap into an IRA before age 59 ½ without a tax penalty. There are, however, some exclusions that might allow you to do so. For example, you could take money penalty-free from an IRA if you’re using it for the purchase of a first home.

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Rule of 55 Requirements

To qualify for a rule of 55 401(k) or 403(b) withdrawal, you’ll need to:

•   Be age 55 or older

•   Separate from your employer at age 55 or older

•   Leave the money in your employer’s plan (rule of 55 benefits are lost if you roll funds over to an IRA)

You also need to have a 401(k) or 403(b) plan that allows for rule of 55 withdrawals. If your plan doesn’t permit early withdrawals before age 59 ½ , then you won’t be able to take advantage of this rule.

Also keep in mind that IRS rules require a 20% tax withholding on early withdrawals from a 401(k) or similar plan. This applies even if you plan to roll the money over later to another qualified plan or IRA. So you’ll need to consider how that withholding will affect what you receive from the plan and how much you may still owe in taxes on your 401(k) later when reporting the distribution on your return.

Example of the Rule of 55

Here’s how the rule of 55 works. Say you lose your job or decide to retire early at age 55, and you need money to help pay your bills and cover lifestyle expenses. Under the rule of 55, you can take distributions from the 401(k) or 403(b) plan you were contributing to up until the time you left your job. You will not be charged the typical 10% early withdrawal penalty in this instance.

Also worth noting: If you decide to go back to work a year or two later at age 56 or 57, say, you can still continue to take distributions from that same 401(k) or 403(b) plan, as long as you have not rolled it over into another employer-sponsored plan or IRA.

Should You Use the Rule of 55?

The IRS rule of 55 is designed to benefit people who may need or want to withdraw money from their retirement plan early for a variety of reasons. For example, you might consider using this rule if you:

•   Decide to retire early and need your 401(k) to close the income gap until you’re eligible for Social Security benefits

•   Are taking time away from work to act as a caregiver for a spouse or family member and need money from your retirement plan to cover basic living expenses

•   Want to take some of the money in your 401(k) early to help minimize required minimum distributions (RMDs) later

In those scenarios, it could make sense to apply the rule of 55 in order to access your retirement savings penalty-free. On the other hand, there are some situations where you may be better off letting the money in your employer’s plan continue to grow.

For instance, if your employer’s plan requires you to take a lump sum payment, this could push you into a substantially higher tax bracket. Having to pay taxes on all of the money at once could diminish your account balance more so than spreading out distributions — and the associated tax liability — over a longer period of time.

You may also reconsider taking money from your 401(k) early if you still plan to work in some capacity. If you have income from a new full-time job or part-time job, for instance, you may not need to withdraw funds from your 401(k) at all. But if you change your mind later and decide to return to work, you can continue to take withdrawals from the same retirement plan penalty-free.

Other Ways to Withdraw From a 401(k) Penalty-Free

Aside from the rule of 55, there are other exceptions that could allow you to take money from your 401(k) penalty-free. The IRS allows you to do so if you:

•   Reach age 59 ½

•   Pass away (for distributions made to your plan beneficiary)

•   Become totally and permanently disabled

•   Need the money to pay for unreimbursed medical expenses exceeding 10% of your adjusted gross income (AGI)

•   Need the money to pay health insurance premiums while unemployed

•   Are a qualified reservist called to active duty

You can also avoid the 10% early withdrawal penalty by taking a series of substantially equal periodic payments. This IRS rule allows you to sidestep the penalty if you agree to take a series of equal payments based on your life expectancy. You must separate from service with the employer that maintains your 401(k) in order to be eligible under this rule. Additionally, you must commit to taking the payment amount that’s required by the IRS for a minimum of five years or until you reach age 59 ½, whichever occurs first.

A 401(k) loan might be another option for withdrawing money from your retirement account without a tax penalty. You might consider this if you’re not planning to retire but need to take money from your retirement plan.

With a 401(k) loan, you’ll have to pay the money back with interest. Your employer may stop you from making new contributions to the plan until the loan is repaid, generally over a five-year term. If you leave your job where you have your 401(k) before the loan is repaid, any remaining amount becomes payable in full. If you can’t pay the loan off, the whole amount is treated as a taxable distribution and the 10% early withdrawal penalty also may apply if you’re under age 59 ½.

The Takeaway

Early retirement may be one of your financial goals, and achieving it requires some planning. Maxing out your 401(k) or 403(b) can help you save the money you’ll need to retire early, and you may be able to access the funds early with the rule of 55.

You may also consider investing in an IRA or a taxable brokerage account to save for retirement. A brokerage account doesn’t have age restrictions, so there are no penalties for early withdrawals before age 59 ½. You’ll have to pay capital gains tax on any profits realized from selling investments, but you can allow the balances in your 401(k) or IRA to continue to grow on a tax-advantaged basis.

Ready to invest for your retirement? It’s easy to get started when you open a traditional or Roth IRA with SoFi. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).

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FAQ

Can I use the rule of 55 if I get another job?

Yes, you can use the rule of 55 to keep withdrawing from your 401(k) if you get another job. As long as it’s the same 401(k) you were contributing to when you left your job and you haven’t rolled it over into an IRA or another plan, you can still continue to take distributions from it whether you get a full-time or part-time job.

How do I know if I qualify for Rule of 55?

First, find out if your employer allows for the rule 55 withdrawals. Check with your HR or benefits department. If they do, and you are 55 or older (or age 50 or older if you are a public safety worker), you should qualify for the rule of 55 and be able to take distributions from your most recent employer’s plan. You cannot take penalty-free distributions from 401(k) plans with previous employers.

How do I claim the rule of 55?

To start taking rule of 55 withdrawals, typically all you need to do is reach out to your plan’s administrator and prove that you qualify — meaning that you are age 55 or older and that you’re leaving your job.

What is the rule of 55 lump sum?

Some 401(k) plans may require you to take a lump sum payment if you are using the rule of 55. That could create a big tax liability since you will need to pay income tax on the money you withdraw. In this case you might want to explore other alternatives to the rule of 55. It may also be helpful to speak with a tax professional.

Photo credit: iStock/bagi1998

SoFi Invest®

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

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May
18
2024
Should I Use a Dividend Reinvestment Plan?

Dividend Reinvestment Plans: How DRIP Investing Works

By | Growing Wealth, Investing | No Comments

A dividend reinvestment plan, or DRIP, allows investors to reinvest the cash dividends they receive from their stocks into more shares of that stock. Hundreds of companies, funds, and brokerages offer DRIPs to shareholders. Reinvesting dividends through a DRIP may come with a discount on share prices or no commissions.

Of course, it’s possible to simply keep the cash dividends to spend or save, or use them to buy shares of a different stock. If you’re wondering, should I reinvest dividends?, it helps to know the pros and cons of dividend reinvestment programs and how they work.

Key Points

•   Dividend reinvestment plans (DRIPs) allow investors to reinvest cash dividends into more shares of the same stock.

•   DRIPs can be offered by companies or through brokerages, with potential discounts on share prices or no commissions.

•   There are two types of DRIPs: company-operated DRIPs and DRIPs through brokerages.

•   Reinvesting dividends through a DRIP may lead to greater long-term returns due to compounding.

•   However, DRIPs have limitations, such as tying up cash, risk exposure, and limited flexibility in choosing where to reinvest funds.

What Is Dividend Reinvestment?

Dividend reinvestment typically means using the dividends you receive to purchase additional shares of stock in the same company rather than taking the dividend as a payout.

When you initially buy a share of dividend-paying stock, you typically have the option of choosing whether you’ll want to reinvest your dividends automatically.

Need a refresher on dividends? Check out what a dividend is and how they work.

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What Is a Dividend Reinvestment Plan?

Depending on which stocks you invest in, you may have the option to enroll in a Dividend Reinvestment Plan or DRIP. This type of plan, offered by about 650 companies and 500 closed-end funds, allows you to automatically reinvest dividends as they’re paid out into additional shares of stock.

💡 Quick Tip: Investment fees are assessed in different ways, including trading costs, account management fees, and possibly broker commissions. When you set up an investment account, be sure to get the exact breakdown of your “all-in costs” so you know what you’re paying.

Types of Dividend Reinvestment Plans

There are two main types of dividend reinvestment plans. They are:

Company DRIPs

With this type of plan, the company operates its own DRIP as a program that’s offered to shareholders. Investors who choose to participate simply purchase the shares directly from the company, and DRIP shares are often offered to them at a discounted price. Some companies allow investors to do full or partial reinvestment, or to purchase fractional shares.

DRIPs through a brokerage

Many brokerages also provide dividend reinvestment as well. Investors can set up their brokerage account to automatically reinvest in shares they own that pay dividends.

DRIP Example

Here’s a dividend reinvestment example that illustrates how a company-operated DRIP works. If you own 20 shares of a stock that has a current trading value of $100 per share, and the company announces that it will pay $10 in dividends per share of stock, then the company would pay you $200 in dividends that year.

If you choose to reinvest the dividends, you would own 22 shares of that stock ($200 in dividends/$100 of current trading value = 2 new shares of stock added to your original 20). If the stock price was $200, you’d be able to purchase a single share; if it was $50, you could theoretically reinvest and own an additional four shares.

If, instead, you want cash, then you’d receive $200 to spend or save, and you’d still have the initial 20 shares of the stock.

Pros and Cons of DRIPs

If you’re wondering, should I reinvest dividends?, it’s a good idea to weigh the advantages and disadvantages of DRIPs. But note, too, that some of the pros and cons may be specific to one of the two types of DRIPs: Those offered through a company, and those through a brokerage.

Pros of Dividend Reinvestment Plans

On the “pros” side, one reason to reinvest your dividends is that it may help to position you for potentially greater long-term returns, thanks to the power of compounding returns, which may hold true whether investing through a company-operated DRIP, or one through a brokerage.

Generally, if a company pays out the same level of dividends each year — whether that’s 2%, 3%, or another amount — and you take your dividends in cash, then you’ll keep getting the same amount in dividends each year (assuming you don’t buy any additional shares).

But if you take your dividends and reinvest them through a DRIP, then you’ll have more shares of stock next year, and then more the year after that — which means, ideally, that the dollar amount of the dividends (at least in our example where the payout percentage is the same each year) will keep rising. Over a period of time, the amount you would receive during subsequent payouts could increase.

An important caveat, however: Real-life situations aren’t often as straightforward as this example, of course. For one thing, stock prices aren’t likely to stay exactly the same for an extended period of time.

Plus, there’s no guarantee that dividends will be paid out each period; and even if they are, there is no way to know for sure how much they’ll be. The performance of the company and the general economy can have a significant impact on company profitability and, therefore, typically affect dividends given to shareholders.

There are more benefits associated with DRIPs:

•   You may get a discount: Discounts on DRIP shares can be anywhere from 1% to 10%, depending on the type of DRIP (company-operated) and the specific company.

•   Zero commission: Most company-operated DRIP programs may allow you to buy new shares without paying commission fees. However, many brokerages offer zero-commission trading outside of DRIPs these days, too.

•   Fractional shares: DRIPs may allow you to reinvest into fractional shares, rather than whole shares that may be at a pricier level than you wish to purchase. This may be an option with either a company-operated or brokerage-operated DRIP.

•   Dollar-cost averaging: This is a common strategy investors use to manage price volatility. You invest the same amount of money on a regular basis (every week, month, quarter) no matter what the price of the asset is.

Cons of Dividend Reinvestment Plans

Dividend reinvestment plans also come with some potential negatives.

•   The cash is tied up. First, reinvesting dividends obviously puts that money out of reach if you need it, which may be particularly true for company-operated DRIP plans. That can be a downside if you want or need the money for, say, home improvements, a tuition bill, or an upcoming vacation.

•   Risk exposure. You should also keep potential risk factors in mind. For example, you may have concerns about the stock market in general, or about the particular company where you’re a shareholder, and reinvesting your cash into more equities may seem unwise.

Or you may need to rebalance your portfolio. If you’ve been reinvesting your dividends, and the stock portion of your portfolio has grown, using a DRIP could inadvertently put your allocation further out of whack.

•   Flexibility concerns. Another possible drawback to consider is that when your dividends are automatically reinvested through a DRIP, they will go right back into the company that issued the dividend. Though some company-operated DRIPs do give investors options (such as full or partial reinvestment), some investors may find that those DRIPs offer limited options as to where to reinvest their funds.

Perhaps you’d simply rather buy stock from another company – an option which may be available through a brokerage-operated DRIP. Note, though, that even brokerage-operated DRIPs may reinvest dividends as soon as they’re paid, so investors may not have a chance to redirect the investment.

•   Less liquidity. Also, when you use a company-operated DRIP, and later wish to sell those shares, you must sell them back to the company in many cases. DRIP shares cannot be sold on exchanges. Again, this will depend on the specific company and DRIP, but is something investors should keep in mind.

💡 Quick Tip: How to manage potential risk factors in a self-directed investment account? Doing your research and employing strategies like dollar-cost averaging and diversification may help mitigate financial risk when trading stocks.

Cash vs Reinvested Dividends

Should I reinvest dividends or take cash instead? How you approach this question can depend on several things, including:

•   Your short-term financial goals

•   Long-term financial goals

•   Income needs

Accepting the cash value of your dividends can provide you with ongoing income. That may be important to you if you’re looking for a way to supplement your paychecks during your working years, or for other income sources if you’re already retired.

As mentioned earlier, you could use that cash income to further a number of financial goals. For instance, you might use cash dividend payouts to pay off debt, fund home improvements or put your kids through college. Or you may use it to help pay for long-term care during your later years.

You might consider a cash option for dividends rather than reinvesting dividends if you’re already building sufficient wealth for retirement in your portfolio. That way, you can free up the cash now to enjoy it or address other current priorities.

Cash may also be more attractive if you’re comfortable with your current portfolio configuration and don’t want to purchase additional shares of the dividend stocks you already own.

On the other hand, reinvesting dividends automatically through a DRIP could help you to increase your savings for retirement. This assumes, of course, that your investments perform well and that the stocks you own don’t decrease or eliminate their dividend payout over time.

Tax Consequences of Dividends

For those wondering, do you have to pay taxes on reinvested dividends?, one thing to keep in mind is that dividends — whether you cash them out or reinvest them — are not free money. There may be tax consequences when you receive dividends because if the amount is significant enough, you might need to pay income taxes on what you’ve earned.

Each year, you’ll receive a tax form called a 1099-DIV for each investment that paid you dividends, and these forms will help you to determine how much you owe in taxes on those earnings.

Dividends are considered taxable whether you take them in cash or reinvest them — even though when you reinvest, the money isn’t currently available for you to spend.

The exception to that rule is for funds invested in retirement accounts, such as an online IRA, as the money invested in these accounts is tax-deferred. If you have received or believe you may receive dividends this year, it can make sense to get professional tax advice to see how you can minimize your tax liability.

Should You Reinvest Dividends?

Reinvesting dividends through a dividend reinvestment plan is partly a short-term decision, and mostly a long-term one.

If you need the cash from the dividend payouts in the near term, or have doubts about the market or the company you’d be reinvesting in (or you’d rather purchase another stock), you may not want to use a DRIP.

If on the other hand you don’t have an immediate need for the cash, and you can see the value of compounding the growth of your shares in the company over the long haul, reinvesting dividends could make sense.

The Takeaway

Reinvesting dividends and using a dividend reinvestment plan (DRIP) is an automatic feature investors can use to take their dividend payouts and use them to purchase more shares of the company’s stock. However, it’s important to consider all the scenarios before you decide to surrender your cash dividends to an automatic reinvestment plan.

While there is the potential for compound growth, and using a DRIP may allow you to purchase shares at a discount and with no transaction fees, these dividend reinvestment plans are limiting. You are locked into that company’s stock during a certain market period, and even if you decided to sell, you wouldn’t be able to sell DRIP shares on any exchange but back to the company. Whether you use a DRIP or not, you may want to consider having some dividend-paying stocks as part of a balanced portfolio in your investment account.

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FAQ

How do you set up a dividend reinvestment plan?

There are two ways to set up a dividend reinvestment plan. First, you can set up an automatic dividend reinvestment plan with the company whose stock you own. Or you can set up automatic dividend reinvestment through a brokerage. Either way, all dividends paid for the stock will automatically be reinvested into more shares of stock.

Can you calculate dividend reinvestment rates?

There is a very complicated formula you can use to calculate dividend reinvestment rates, but it’s typically much easier to use an online dividend reinvestment calculator instead.

What is the difference between a stock dividend and a dividend reinvestment plan?

A stock dividend is a payment made from a company to its shareholders (people who own shares of their company’s stock). A dividend reinvestment plan allows investors to reinvest the cash dividends they receive from their stocks into more shares of that stock.

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

SoFi Invest®

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

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May
18
2024
TFSA vs RRSP: What’s the Difference?

TFSA vs RRSP: What’s the Difference?

By | Investing, money, Preparing for Retirement, Terminology | Comments Off on TFSA vs RRSP: What’s the Difference?

Both TFSAs and RRSPs are accounts that provide Canadian consumers with a chance to save while enjoying investment earnings and unique tax benefits. While a TFSA acts as a more general savings account, an RRSP is used for retirement savings.

Saving is never a bad idea, so here you can learn the difference between these accounts and how they can play a role in securing your financial future.

Keep reading for a more detailed breakdown of a TFSA vs. RRSP so you can make the right financial move for your needs.

🛈 Currently, SoFi does not provide RRSP and TFSA accounts.

What Is the TFSA?

A Tax-Free Savings Account (TFSA) is a type of registered tax-advantaged savings account to help Canadians earn money on their savings — tax-free. TFSA accounts were created in 2009 by the Canadian government to encourage eligible citizens to contribute to this type of savings account.

Essentially, a TFSA holds qualified investments that can generate capital gains, interest, and dividends, and they’re tax-free. These accounts can be used to build an emergency fund, to save for a down payment on a home, or even to finance a dream vacation.

A TFSA can contain the following types of investments:

•   Cash

•   Stocks

•   Bonds

•   Mutual funds

It’s possible to withdraw the contributions and earnings generated from dividends, interest, and capital gains without having to pay any taxes. Accountholders don’t even have to report withdrawals as income when it’s time to file taxes.

There is a limit to how much someone can contribute to a TFSA on an annual basis. This limit is referred to as a contribution limit, and every year the Canadian government determines what the contribution limit for that year is. If someone doesn’t meet the contribution limit one year, their remaining allowed contributions can be made up for in following years.

To contribute to a TFSA, an individual must be at least 18 years of age and be a Canadian resident with a valid Social Insurance Number (SIN).

What Is the RRSP?

A Registered Retirement Savings Plan (RRSP) is, as the name indicates, a type of savings plan specifically designed to help boost retirement savings. To obtain one, a Canadian citizen must register with the Canadian federal government for this financial product and can then start saving.

When someone contributes to an RRSP, their contributions are considered to be tax-advantaged. What this means: The funds they contribute to their RRSP are exempt from being taxed the year they make the contribution (which can reduce the total amount of taxes they need to pay for that year). On top of that, the investment income these contributions generate will grow tax-deferred. This means the account holder won’t pay any taxes on the earnings until they withdraw them.

Unlike a TFSA, there isn’t a minimum age requirement to open and contribute to an RRSP. That being said, certain financial institutions may require their customers to be the age of majority in order to contribute. It’s possible to contribute to an RRSP until the year the account holder turns 71 as long as they are a Canadian resident, earned an income, and filed a tax return.

Keep reading for a TFSA vs. RRSP comparison.

Similarities Between a TFSA and an RRSP

How does a TFSA vs. RRSP compare? There are a few similarities between TFSAs and RRSPs that are worth highlighting. Here are the main ways in which they are the same:

•   Only Canadians citizens can contribute

•   Contributions can help reach savings goals

•   Investments can be held in each account type

•   Both accounts offer tax advantages.

Differences Between a TFSA and RRSP

Next, let’s answer this question: What is the difference between an RRSP and a TFSA? Despite the fact that both an RRSP and a TFSA share similar goals (saving money and earning interest on it) and advantages (tax benefits), they have some key differences to be aware of.

•   Intended use. RRSPs are for retirement savings whereas TFSAs can be used to save for any purpose.

•   Age eligibility. To contribute to a TFSA one must be 18 years old, but there isn’t an age requirement to open an RRSP.

•   Contribution limit. The limits are usually set annually and are different for TFSAs and RRSPs. For 2024, the contribution limit for an RRSP is the lesser of either 18% of earned income reported on an individual’s tax return for the previous year or the contribution limit, which is currently $31,560 in US dollars. The limit for a TFSA, which also can vary annually, was most recently $7,000.

•   Taxation on withdrawals. While RRSP withdrawals are taxable (but subject to certain exceptions), TFSA withdrawals can be made at any time tax-free.

•   Taxation on contributions. Contributions made to a TFSA aren’t tax-deductible, but RRSP contributions are.

•   Plan maturity. An RRSP matures at the end of the calendar year that the account holder turns 71. TFSAs don’t have age limits for account maturity.

•   Spousal contributions. There is no form of spousal TFSA available, but someone can contribute to a spousal RRSP.

How Do I Choose Between a TFSA and RRSP?

Choosing between a TFSA and an RRSP depends on someone’s unique savings goals and tax preferences. That being said, if someone’s main goal is saving for retirement, they’ll likely find that an RRSP is the right fit for them. When someone contributes to an RRSP, they can defer paying taxes during their peak earning years. Once they retire and make withdrawals (which they will need to pay taxes on), they will ideally have a lower income (and be in a lower tax bracket) and smaller tax liabilities at that point in their life.

If someone wants to be able to use their savings for a variety of different purposes (perhaps including a medium-term goal like the amount needed for a down payment on a home), they may find that a TFSA offers them more flexibility.
That said, there’s no reason TFSA savings can’t be used for retirement later on. Contributing to a TFSA is a great option for someone who has already maxed out their RRSP contributions for the year, but who wants to continue saving and enjoying tax benefits.

Recommended: What Tax Bracket Do I Fall Under?

Can I Have Both a TFSA and RRSP?

It is indeed possible to have both an RRSP and TFSA and to contribute to them at the same time. Putting money into both of these financial vehicles can be a great way to save. There are no downsides associated with contributing to both an RRSP and TFSA at the same time if a person can afford to do so.

Can I Have Multiple RRSP and TFSA Accounts?

Yes, it’s possible to have more than one TFSA and RRSP open at the same time, but there’s no real benefit here. The same contribution limits apply.

That means that opening more than one version of the same account or plan only leads to having more accounts to manage and incurring more administration and management fees. Just as you don’t want to pay fees on your checking account and other bank accounts, you probably don’t want to burn through cash on fees here.

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Should I Prioritize One Over the Other?

Which type of account someone should prioritize depends on their savings goals. Their preferences regarding the unique tax advantages of each account may also come into play. That being said, if someone is focused on saving for retirement, they’ll likely want to make sure they max out their RRSP contributions first.

The Takeaway

Both RRSP and TFSA accounts are great ways for Canadian citizens to save for financial goals like retiring or financing a wedding. Each account has unique advantages and contribution limits. While an RRSP account is designed to help with stashing away cash for retirement, a TFSA account can be used to save for any type of financial need. Whether you choose one or both of these products, you’ll be on a path towards saving and helping to secure your financial future.

FAQ

Is it better to invest in TFSA or RRSP?

When it comes to TFSA vs. RRSP, there’s no right answer to whether investing in one is better than the other. Someone focused on saving for retirement may want to prioritize an RRSP, while someone who wants to save for other expenses (like a home or wedding) may find a TFSA more appealing.

Should I max out RRSP or TFSA first?

If someone is focused on saving for retirement, they may want to max out their RRSP first. That being said, this is a personal decision that depends on unique financial goals and tax preferences.

When should you contribute to RRSP vs TFSA?

Typically, the contribution deadline for RRSPs is around March 1st. A Canadian citizen can put funds in a TFSA at any point in a calendar year, and if they don’t max out their account, they will usually be able to contribute the remaining amount in the future.

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As an alternative to direct deposit, SoFi members with Qualifying Deposits can earn 4.00% APY on savings balances (including Vaults) and 0.50% APY on checking balances. Qualifying Deposits means one or more deposits that, in the aggregate, are equal to or greater than $5,000 to an account holder’s SoFi Checking and Savings account (“Qualifying Deposits”) during a 30-day Evaluation Period (as defined below). Qualifying Deposits only include those deposits from the following eligible sources: (i) ACH transfers, (ii) inbound wire transfers, (iii) peer-to-peer transfers (i.e., external transfers from PayPal, Venmo, etc. and internal peer-to-peer transfers from a SoFi account belonging to another account holder), (iv) check deposits, (v) instant funding to your SoFi Bank Debit Card, (vi) push payments to your SoFi Bank Debit Card, and (vii) cash deposits. Qualifying Deposits do not include: (i) transfers between an account holder’s Checking account, Savings account, and/or Vaults; (ii) interest payments; (iii) bonuses issued by SoFi Bank or its affiliates; or (iv) credits, reversals, and refunds from SoFi Bank, N.A. (“SoFi Bank”) or from a merchant. SoFi members with Qualifying Deposits are not eligible for other SoFi Plus benefits.

SoFi Bank shall, in its sole discretion, assess each account holder’s Direct Deposit activity and Qualifying Deposits throughout each 30-Day Evaluation Period to determine the applicability of rates and may request additional documentation for verification of eligibility. The 30-Day Evaluation Period refers to the “Start Date” and “End Date” set forth on the APY Details page of your account, which comprises a period of 30 calendar days (the “30-Day Evaluation Period”). You can access the APY Details page at any time by logging into your SoFi account on the SoFi mobile app or SoFi website and selecting either (i) Banking > Savings > Current APY or (ii) Banking > Checking > Current APY. Upon receiving a Direct Deposit or $5,000 in Qualifying Deposits to your account, you will begin earning 4.00% APY on savings balances (including Vaults) and 0.50% on checking balances on or before the following calendar day. You will continue to earn these APYs for (i) the remainder of the current 30-Day Evaluation Period and through the end of the subsequent 30-Day Evaluation Period and (ii) any following 30-day Evaluation Periods during which SoFi Bank determines you to have Direct Deposit activity or $5,000 in Qualifying Deposits without interruption.

SoFi Bank reserves the right to grant a grace period to account holders following a change in Direct Deposit activity or Qualifying Deposits activity before adjusting rates. If SoFi Bank grants you a grace period, the dates for such grace period will be reflected on the APY Details page of your account. If SoFi Bank determines that you did not have Direct Deposit activity or $5,000 in Qualifying Deposits during the current 30-day Evaluation Period and, if applicable, the grace period, then you will begin earning the rates earned by account holders without either Direct Deposit or Qualifying Deposits until you have Direct Deposit activity or $5,000 in Qualifying Deposits in a subsequent 30-Day Evaluation Period. For the avoidance of doubt, an account holder with both Direct Deposit activity and Qualifying Deposits will earn the rates earned by account holders with Direct Deposit.

Members without either Direct Deposit activity or Qualifying Deposits, as determined by SoFi Bank, during a 30-Day Evaluation Period and, if applicable, the grace period, will earn 1.20% APY on savings balances (including Vaults) and 0.50% APY on checking balances.

Interest rates are variable and subject to change at any time. These rates are current as of 12/3/24. There is no minimum balance requirement. Additional information can be found at https://www.sofi.com/legal/banking-rate-sheet.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.

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May
18
2024
Is a Backdoor Roth IRA Right for You?

Backdoor Roth IRAs

By | Growing Wealth, invest, Investing, Preparing for Retirement, Terminology | No Comments

Want to contribute to a Roth IRA, but have an income that exceeds the limits? There’s another option. It’s called a backdoor Roth IRA, and it’s a way of converting funds from a traditional IRA to a Roth.

A Roth IRA is an individual retirement account that may provide investors with a tax-free income once they reach retirement. With a Roth IRA, investors save after-tax dollars, and their money generally grows tax-free. Roth IRAs also provide additional flexibility for withdrawals — once the account has been open for five years, contributions can generally be withdrawn without penalty.

But there’s a catch: Investors can only contribute to a Roth IRA if their income falls below a specific limit. If your income is too high for a Roth, you may want to consider a backdoor Roth IRA.

Key Points

•   A backdoor Roth IRA allows high earners to contribute to a Roth IRA by converting funds from a traditional IRA.

•   This strategy involves paying income taxes on pre-tax contributions and earnings at conversion.

•   There are no income limits or caps on the amount that can be converted to a Roth IRA.

•   The process includes opening a traditional IRA, making non-deductible contributions, and then converting these to a Roth IRA.

•   Potential tax implications include moving into a higher tax bracket and owing taxes on pre-tax contributions and earnings.

What Is a Backdoor Roth IRA?

If you aren’t eligible to contribute to a Roth IRA outright because you make too much, you can do so through a technique called a “backdoor Roth IRA.” This strategy involves contributing money to a traditional IRA and then converting it to a Roth IRA.

The government allows individuals to do this as long as, when they convert the account, they pay income tax on any contributions they previously deducted and any profits made. Unlike a standard Roth IRA, there is no income limit for doing the Roth conversion, nor is there a ceiling to how much can be converted.

💡 Quick Tip: How much does it cost to open an IRA account? Often there are no fees to open an IRA, but you typically pay investment costs for the securities in your portfolio.

How Does a Backdoor IRA Work?

This is how a backdoor IRA typically works: An individual opens a traditional IRA and makes non-deductible contributions. They then convert the account into a Roth IRA. The strategy is generally most helpful to those who earn a higher salary and are otherwise ineligible to contribute to a Roth IRA.

Example Scenario

For instance, let’s say a 34-year-old individual whose tax filing status is single and who makes $150,000 a year wants to open a Roth IRA. Their income is too high for them to be eligible for a Roth directly (more on this below), but they can use the “backdoor IRA” strategy. In order to do this, the individual would open a traditional IRA and contribute non-deductible funds to it. They then convert that money to a Roth IRA.

Recommended: Traditional Roth vs. Roth IRA: How to Choose the Right Plan

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Income and Contribution Limits

In general, Roth IRAs have income limits. In 2024, a single person whose modified adjusted gross income (MAGI) is more than $161,000, or a married couple filing jointly with a MAGI more than $240,000, cannot contribute to a Roth IRA. For tax year 2023, a single filer whose MAGI is more than $153,000, or a married couple filing jointly with a MAGI over $228,000, cannot contribute to a Roth IRA.

There are also annual contribution limits for Roth IRAs. In 2024, an individual can contribute up to $7,000 in a Roth IRA (or up to $8,000 if they are 50 or older). For tax year 2023, an individual can contribute up to $6,500 in a Roth IRA (or up to $7,500 if they are 50 or older). Traditional IRAs have the same contribution limits as Roth IRAs.

How to Set Up and Execute a Backdoor Roth

Here’s how to initiate and complete a backdoor Roth IRA.

•   Open a Traditional IRA. You could do this with SoFi Invest®, for instance.

•   Make a non-deductible contribution to the Traditional IRA.

•   Open a Roth IRA, complete any paperwork that may be required for the conversion, and transfer the money into the Roth IRA.

Tax Impact of a Backdoor Roth

If you made non-deductible contributions to a traditional IRA that you then converted to a Roth IRA, you won’t owe taxes on the money because you’ve already paid taxes on it. However, if you made deductible contributions, you will need to pay taxes on the funds.

In addition, if some time elapsed between contributing to the traditional IRA and converting the money to a Roth IRA, and the contribution earned a profit, you will owe taxes on those earnings.

You might also owe state taxes on a Roth IRA conversion. Be sure to check the tax rules in your area.

Another thing to be aware of: A conversion can also move people into a higher tax bracket, so individuals may consider waiting to do a conversion when their income is lower than usual.

And finally, if an investor already has traditional IRAs, it may create a situation where the tax consequences outweigh the benefits. If an individual has money deducted in any IRA account, including SEP or SIMPLE IRAs, the government will assume a Roth conversion represents a portion or ratio of all the balances. For example, say the individual contributed $5,000 to an IRA that didn’t deduct and another $5,000 to an account that did deduct. If they converted $5,000 to a Roth IRA, the government would consider half of that conversion, or $2,500, taxable.

The tax rules involved with converting an IRA can be complicated. You may want to consult a tax professional.

💡 Quick Tip: Before opening an investment account, know your investment objectives, time horizon, and risk tolerance. These fundamentals will help keep your strategy on track and with the aim of meeting your goals.

Is a Backdoor Roth Right for Me?

It depends on your situation. Below are some of the benefits and downsides to a backdoor Roth IRA to help you determine if this strategy might be a good option for you.

Benefits

High earners who don’t qualify to contribute under current Roth IRA rules may opt for a backdoor Roth IRA.

As with a typical Roth IRA, a backdoor Roth may also be a good option when an investor expects their taxes to be lower now than in retirement. Investors who hope to avoid required minimum distributions (RMDs) when they reach age 73 might also consider doing a backdoor Roth.

Downsides

If an individual is eligible to contribute to a Roth IRA, it won’t make sense for them to do a backdoor conversion.

And because a conversion can also move people into a higher tax bracket, you may consider waiting to do a conversion in a year when your income is lower than usual.

For those individuals who already have traditional IRAs, the tax consequences of a backdoor Roth IRA might outweigh the benefits.

Finally, if you plan to use the converted funds within five years, a backdoor Roth may not be the best option. That’s because withdrawals before five years are subject to income tax and a 10% penalty.

Is a Backdoor Roth Still Allowed for 2023? For 2024?

Backdoor IRAs are still allowed for tax year 2023. And at this point, they are still allowed for 2024 as well.

There had been some discussion in previous years of possibly eliminating the backdoor Roth IRA, but as of yet, this has not happened.

The Takeaway

A backdoor Roth IRA may be worth considering if tax-free income during retirement is part of an investor’s financial plan, and the individual earns too much to contribute directly to a Roth.

In general, Roth IRAs may be a good option for younger investors who have low tax rates and people with a high income looking to reduce tax bills in retirement.

Ready to invest for your retirement? It’s easy to get started when you open a traditional or Roth IRA with SoFi. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).

Help grow your nest egg with a SoFi IRA.

FAQ

What are the rules of a backdoor Roth IRA?

The rules of a backdoor Roth IRA include paying taxes on any deductible contributions you make; paying any other taxes you may owe for the conversion, such as state taxes; and waiting five years before withdrawing any earnings from the Roth IRA to avoid paying a penalty.

Is it worth it to do a backdoor Roth IRA?

It depends on your specific situation. A backdoor Roth IRA may be beneficial if you earn too much to contribute to a Roth IRA. It may also be advantageous for those who expect to be in a higher tax bracket in retirement.

What is the 5-year rule for backdoor Roth IRA?

According to the 5-year rule, if you withdraw money from a Roth IRA before the account has been open for at least five years, you are typically subject to a 10% tax on those funds. The five year period begins in the tax year in which you made the backdoor Roth conversion. There are some possible exceptions to this rule, however, including being 59 ½ or older or disabled.

Do you get taxed twice on backdoor Roth?

No. You pay taxes once on a backdoor IRA — when you convert a traditional IRA with deductible contributions and any earnings to a Roth. When you withdraw money from your Roth in retirement, the withdrawals are tax-free because you’ve already paid the taxes.

Can you avoid taxes on a Roth backdoor?

There is no way to avoid paying taxes on a Roth backdoor. However, you may be able to reduce the amount of tax you owe by doing the conversion in a year in which your income is lower.

Can you convert more than $6,000 in a backdoor Roth?

There is no limit to the amount you can convert in a backdoor Roth IRA. The annual contribution limits for IRAs does not apply to conversions. But you may want to split your conversions over several years to help reduce your tax liability.

What time of year should you do a backdoor Roth?

There is no time limit on when you can do a backdoor Roth IRA. However, if you do a backdoor Roth earlier in the year, it could give you more time to come up with any money you need to pay in taxes.

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.

SoFi Invest®

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.


Investment Risk: Diversification can help reduce some investment risk. It cannot guarantee profit, or fully protect in a down market.

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May
18
2024
What Is the Arms Index (TRIN)? How to Use the Indicator

What Is the Arms Index (TRIN)? How to Use the Indicator

By | Growing Wealth, invest, Investing | Comments Off on What Is the Arms Index (TRIN)? How to Use the Indicator

The Arms Index or Trading Index (TRIN) is a breadth indicator used to indicate when the stock market is overbought and oversold. In simpler terms, it measures how strong or weak the market is on any given day.

Technical analyst Richard W. Arms developed the Arms Index formula in 1967 as a tool for gauging market sentiment. Investors still use TRIN indicators to track volatility and price movements. By looking for upward or downward trends in the TRIN and comparing them to other technical indicators, investors can potentially identify buy or sell signals.

Key Points

•   The Arms Index, also known as TRIN, measures stock market strength or weakness.

•   It was developed by Richard W. Arms in 1967 to gauge market sentiment.

•   TRIN calculates by dividing the Advance/Decline ratio by the Advance/Decline volume ratio.

•   A TRIN value above 1.0 suggests a bearish market, while below 1.0 indicates bullish conditions.

•   Investors use TRIN alongside other indicators to identify potential buy or sell signals.

What Is the Arms Index (TRIN)?

The Arms Index, Trading Index or TRIN for short is a breadth oscillator used to identify pricing and value trends in the stock market. Specifically, the index looks at two things: Advance Decline ratio and Advance Decline volume ratio.

The former represents the number of advancing and declining stocks while the latter represents advancing and declining stock volume.

💡 Quick Tip: The best stock trading app? That’s a personal preference, of course. Generally speaking, though, a great app is one with an intuitive interface and powerful features to help make trades quickly and easily.

The TRIN Formula

TRIN = (Advancing stocks/Declining stocks) / (Composite volume of advancing stocks/Composite volume of declining stocks)

In this formula:

•   Advancing stocks refers to the number stocks trading higher

•   Declining stocks refers to the number of stocks trading lower

•   Advancing volume is the total volume of all advancing stocks

•   Declining volume is the total volume of all declining stocks

Investors use moving averages to smooth out the data and understand the relationship between the supply and demand for stocks during a given time period. The Arms Index aims to highlight bearish or bullish trends based on the relationship between the number of stocks being traded and the volume.

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How to Calculate TRIN

To calculate TRIN, you’d simply apply the formula outlined earlier. Again, it looks like this:

TRIN = (Advancing stocks/Declining stocks) / (Composite volume of advancing stocks/Composite volume of declining stocks)

Here’s what calculating TRIN might look like in action:

•   Find AD ratio by dividing the number of advancing stocks by the number of declining stocks

•   Find AD volume ratio by dividing total advancing volume by total declining volume

•   Divide AD ratio by AD volume ratio

You’d perform these calculations over a set time period, recording each figure on a graph or chart as you go. For example, you might space the calculations out every few minutes, hourly or daily. You’d then connect each data point on your graph or chart to whether the TRIN is moving up or down.

Dive Deeper: How to Calculate AD Ratio

What Does TRIN Show You?

TRIN shows you the market’s volatility and the short-term direction of prices to help investors identify buying opportunities. When reading or interpreting TRIN data, you’re looking to see if it’s above 1.0 or below 1.0. This can tell you whether the market is bearish or bullish. A reading of exactly 1.0 is considered neutral.

For example, a reading below 1.0 is common when there are strong upward trends in price movements. Meanwhile, a reading above 1.0 is typical when there’s a strong downward trend. Here’s another way to think of it. When the reading is below 1.0 that means advancing stocks are driving volume but when it’s above 1.0, declining stocks are in the driver’s seat for generating volume.

You may also look at the direction TRIN is moving. A rising TRIN could indicate a weak market, while a falling TRIN may mean the market is getting stronger. Understanding how to read the data matters when determining whether the market is overbought or oversold at any given time.

Overbought

In stock trading, overbought means a stock is selling at a price above its intrinsic value. When the market is overbought, there’s generally a bullish attitude as investors keep buying in and driving up market capitalizations.

But a sell-off can happen if market sentiment turns negative. In that case, you get a reversal and prices begin to drop, potentially pushing market capitalizations down. Investors use the Arms Index or TRIN to spot this type of price movement trend and get ahead of a reversal before it happens.

Oversold

When an asset is oversold it means it’s trading below its intrinsic value. In other words, it’s trading for less than what it’s actually worth. This scenario can happen if an asset is undervalued for an extended period of time.

When investors assume the market is oversold, that can lead to an increase in buying activity. This, in turn, can drive stock prices up.

💡 Quick Tip: How to manage potential risk factors in a self-directed investment account? Doing your research and employing strategies like dollar-cost averaging and diversification may help mitigate financial risk when trading stocks.

Example of Using TRIN

If you wanted to apply the TRIN in real time, you could do that using stock charts that illustrate technical indicators. So, say you want to track the movements of the S&P 500 Index for a single day, looking at prices in five-minute intervals. You begin calculating TRIN at 10:00 am, at which time it’s 1.10. This sends a sell signal to the market and prices begin edging down.

An hour later, you see that TRIN has dropped to 0.85 sending a buy signal. At this point, prices begin to move upward again. By following TRIN throughout the day you could see whether the upward trend looks like it will continue or whether it will eventually reverse. If you’re following the rule of “buy low, sell high“, you might want to time trades to correlate with stock price movements based on the trends forecasted by the TRIN.

How Is TRIN Different Than TICK?

The TRIN measures the spread or gap between supply and demand in the markets. The Tick Index or Tick Indicator shows the number of stocks trading on an uptick minus the number of stocks trading on a downtick. This trend indicator measures all of the stocks that trade on an exchange such as the New York Stock Exchange (NYSE) or Nasdaq.

Unlike Arms Index or TRIN, the Tick indicator does not factor in volumes. Instead, Tick index aims to pinpoint extreme buying or extreme selling on an intraday basis.

Is TRIN a Good Indicator?

The TRIN has both good points and bad points when used as an investment decision-making tool. No technical analysis indicator can yield precise answers when determining the best time to buy or sell.

It’s important to keep in mind that the Trading Index is just one indicator analysts use to evaluate the stock market and stock volatility. The TRIN is most helpful when used with other indicators in order to create a more comprehensive snapshot of the markets at a particular moment in time.

Pros of TRIN

The Arms Index or TRIN closely analyzes trends between advancing and declining assets. By comparing net advances to volume, it provides a picture of price movements. Volume can be a useful indicator in itself, as higher volumes can suggest more significant shifts in stock pricing.

The TRIN is forward-looking so it can be useful in forecasting which way the market will head next. By pointing out stocks that may be overbought or oversold, the indicator can provide investors with some direction when trying to buy the bottom or sell the top to maximize profits in the market.

Cons of TRIN

If the TRIN has one big flaw it’s that it may generate inaccurate readings because of the way the index accounts for volume. Specifically, you can run into problems when advancing volume falls short of expectations.

For example, say that on a given day the number of stocks advancing significantly outpaces the number of stocks declining. Meanwhile, the same trend happens with volumes, with advancing volume outstripping declining volume. When you calculate TRIN, the numbers could effectively cancel one another out, resulting in a neutral reading.

This can make it difficult to figure out if the market is trending bearish or bullish. For that reason, it may be helpful to apply a 10-day moving average (MA) to help even out the numbers and provide a more accurate picture of pricing trends.

How Investors Can Use TRIN

Technical investors can use the TRIN to analyze the market, decide whether to buy or sell, and when to make those trades to produce the best results. When using the index, you’re looking for clear markers of strength or weakness in the markets. By gauging overall market sentiment, it may become easier to make predictions about future prices.

The TRIN is, by nature, designed to monitor short-term trading activity so it may not work as well for spotting longer term trends. But you can use it to get a feel for whether the market is leaning more on the bullish or bearish side and how likely that trend is to either continue or reverse.

The Takeaway

The Arms Index or TRIN is an important concept to understand if you’re an active day trader using technical analysis. With technical analysis, you’re trying to find trends in the near term so that you can take action to capitalize them.

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SoFi Invest®

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.


Investment Risk: Diversification can help reduce some investment risk. It cannot guarantee profit, or fully protect in a down market.

Claw Promotion: Customer must fund their Active Invest account with at least $25 within 30 days of opening the account. Probability of customer receiving $1,000 is 0.028%. See full terms and conditions.

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Terms and conditions apply. SOFI RESERVES THE RIGHT TO MODIFY OR DISCONTINUE PRODUCTS AND BENEFITS AT ANY TIME WITHOUT NOTICE. To qualify, a borrower must be a U.S. citizen or other eligible status, be residing in the U.S., and meet SoFi's underwriting requirements. Not all borrowers receive the lowest rate. Lowest rates reserved for the most creditworthy borrowers. If approved, your actual rate will be within the range of rates at the time of application and will depend on a variety of factors, including term of loan, evaluation of your creditworthiness, income, and other factors. If SoFi is unable to offer you a loan but matches you for a loan with a participating bank, then your rate may be outside the range of rates listed above. Rates and Terms are subject to change at any time without notice. SoFi Personal Loans can be used for any lawful personal, family, or household purposes and may not be used for post-secondary education expenses. Minimum loan amount is $5,000. The average of SoFi Personal Loans funded in 2023 was around $33K. Information current as of 2/26/24. SoFi Personal Loans originated by SoFi Bank, N.A. Member FDIC. NMLS #696891 (www.nmlsconsumeraccess.org). See SoFi.com/legal for state-specific license details. See SoFi.com/eligibility for details and state restrictions.

✝ To check the rates and terms you may qualify for, SoFi conducts a soft credit pull that will not affect your credit score. However, if you choose a product and continue your application, we will request your full credit report from one or more consumer reporting agencies, which is considered a hard credit pull and may affect your credit.

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