Changing Brokerages

I was once discussing with a friend a topic dearly sacred to our friendship: mortgage refinancing.  And while you might think the prospect of chattering about interest rates, loan payments, and the notarization process might make for banal conversation, from it emerged a true lesson learned of vital relevance to FIRE investors, or indeed, any investor.  This ought to be good…

It wasn’t the concept of mortgage refinance that piqued my interest, so much as the underlying nuts and bolts of how my friend achieved the lower interest rate that drew him to the refinancing process.  The particular refinancing offer he received was from a large mega-bank that I won’t mention but trust me, you’ve heard of it.  They offered him the prospect of a much lower interest rate if he were able to bring a certain dollar value account to the bank, and this included the market value of investments.  

At the time, my friend – a FIRE investor – had accumulated a respectable market value in a brokerage account at another institution.  The prospect of saving around .25 to .50% on his mortgage interest rate simply for transferring his brokerage account was a no-brainer.  Over the term of his mortgage, the lower interest rate would translate to savings on his mortgage payments in the five figures.  So, as you might expect, he went along with it and started the process.

Then came the point of this story.  The mortgage broker with the unnamed institution told him that he would have to fund the new account within a week or so, and then said something to the effect of: “that should give you a few days to sell everything in your other account and transfer the funds over.”

And that suggestion is why my friend and I were having the discussion about refinancing.  It was not because our friendship was so mundane that we spoke about topics like mortgages, but because his process involved what would have been a fundamental blunder for an investor.

First things first: to transfer brokerages, you do not have to sell the securities in your account, liquidate them to cash, withdraw the cash, and then re-deposit the cash with a new institution and re-purchase everything.  Doing that would mean you’d realize the capital gains (and losses) of everything in your account.  What’s more, you’d realize them all at once, potentially bringing you a huge tax bill that year, especially if you’ve had the account for a while and were fortunate enough to have accumulated decent gains.

Not only that, but if you liquidate all your holdings, it’ll take a few days for the cash to settle and transfer over, leaving your money out of the market.  If prices rise before you buy back in, you’ll lose out on the difference between the price you sold everything off and the new price when you buy back in.

Fortunately, changing brokers is actually pretty easy and doesn’t require you to liquidate anything.  This is thanks to the Automated Customer Account Transfer Service, more commonly known as ACATS.  And if you’re saying the acronym, it’s pronounced “A-Cats” – like the letter “A” plus “Cats” (the group of animals or the musical).  Sometimes you’ll hear it pronounced “A-Cat”, as in, the letter “A” plus a single “Cat.”  I was once speaking to a broker who told me that to set up a new account, he could “A-Cat” the funds over.  So apparently, it’s a noun and a verb.

ACATS isn’t just fun to pronounce, it makes changing brokerages as simple as could be.  An ACATS transfer simply changes the custodian of all your securities (or those that you selectively choose to transfer).  Nothing is sold, no balances are changed, nothing of that sort.  You open your new account, fill out some paperwork in which you identify the old account, and the new brokerage firm will make everything happen for you.  

Most of the time you don’t even have to tell the old firm you’re leaving – the new one takes care of everything.  Of course, if you have some arrangement with your old firm where you’re paying them to manage your account, it’ll be up to you to cancel that.  And it’s up to you to close the old account – that typically doesn’t happen automatically just because you took all your securities out.

One thing that an ACATS transfer does not do, however, is transfer the cost basis of your securities.  No need to panic, however, as a separate service typically does this as part of the transfer.  In addition to ACATS, the Cost Basis Reporting Service (CBRS) transfers information on your tax basis from your old brokerage firm to the new firm.  Due to some cost basis reporting requirements enacted in 2008, most brokerages participate in CBRS, but of course, it doesn’t hurt to verify this before you transfer your holdings.  

CBRS generally takes between 10-30 days, meaning that when you open your new account and the ACATS transfer goes through, it might take some time to update the gain/loss information in your account.  But don’t worry – it’s coming.  And once the CBRS information comes over, you can buy and sell stock and the new institution will be able to report the gains and losses on your sales as if you’d never moved.  You can buy and sell stock while waiting for the CBRS information as well, you just might not know your exact gain or loss until the basis information updates.

Just remember that in the year you make the account transfer, you’ll receive tax forms from both the old and new broker covering the time in which each firm held your securities.  For example, if you move accounts in June, the form you get from the old firm will report your gains and losses from January through June, while the new firm will report from June through the end of the year.  You’ll have to plug both into your tax return.

Moral of the story: changing brokerage firms is relatively simple and does not require you to liquidate your old account.  Nor do you want to liquidate your old account – you’ll get a huge tax bill that’s simply not worth it.

Now, why would anyone want to change brokerages?  There are plenty of reasons.  One is exactly how this post started: some institutions will offer you incentives to maintain your account with them, whether in the form of lower mortgage rates, special banking services, cash incentives for transferring funds, rewards points, and so on.

You may also want to switch to a new platform because it has better features, like a more user-friendly interface, better mobile app for buying and selling, more comprehensive research, a higher interest rate on uninvested cash, etc.

It doesn’t hurt to shop around for new firms, as you might be able to get something out of it just by transferring over your account.  Just make sure the new place you transfer to has all the right features that you like to use.  And also remember that when you do find an offer that might entice you to transfer firms, try calling your existing firm to see if they can offer you anything to stay.  Sometimes they’ll offer you something just as good – and that may be unadvertised – to keep you.