Frictional expenses refer to the direct and indirect costs associated with a financial transaction, such as purchasing stocks or securing a student loan. Almost all financial transactions involve some form of frictional expense. There are several frictional expenses associated with the purchase and sale of stocks. It is possible to minimize or avoid most of the frictional expenses. The following are some of the frictional expenses associated with stock transactions and recommendations to minimize or avoid them.
Brokerage Fees
This is the primary expense associated with the purchase and sale of stocks. It covers the trading costs incurred by your broker. The fees charged by brokers vary, depending on the level of services offered. For example, some online brokers charge as little as $1.00 whereas others charge $20 for purchasing 100 stocks. You can minimize the fees by choosing a discount broker. Further, you can reduce the costs by opting for fixed as opposed to variable fees, depending on the number of stocks traded per month.
Brokerage Minimum Fees
Many discount brokers require customers to pay a minimum monthly fee. You can avoid this fee by making a minimum number of trades every month.
Mutual Fund Transaction Costs
Mutual funds charge various transaction fees such as purchase fees, redemption fees, and exchange fees. They also charge management fees, account fees, and fund operating fees. You can minimize the costs by choosing funds with minimum transaction costs. You can also opt for exchange-traded funds (ETFs) in favor of mutual funds. The costs associated with exchanged-traded funds are lower compared to mutual funds. Some brokers offer funds free of trading charges. Check with your broker to find funds that you can purchase without transaction fees.
Capital Taxes
If you made a profit or received dividends, then you will need to pay capital taxes. You can minimize the taxes in several ways. You will pay the lower long-term capital taxes on stocks held for more than 1 year. You will pay the higher short-term capital taxes, on stocks held for less than 1 year. You can deduct $3,000 of your capital losses on your federal tax return.
For dividends, the tax rate depends on whether the dividend was qualified or non-qualified. For qualified dividends, the tax rate is lower. For non-qualified dividends, the tax rate is higher. Always check the dividend type, before investing in income generating dividend stocks. Avoid investing in risky real estate investment trusts (REITs) that are always taxed at the higher non-qualified dividend rate.
Research Costs
Most investors pay hefty fees to investment advisors, newsletters, and business journals. Some of these resources provide excellent research material, helping investors to select the best stocks. However, there are a large number of online resources that provide quality research for free. Additionally, many public libraries offer free subscriptions to major research channels, print journals, and other investment databases. You can also subscribe to cheaper online versions of business dailies instead of expensive print versions.
