What are unsettled funds?

Before online trading platforms were available, owning a stock meant possessing a physical stock certificate, and it took several days to complete a trade. The Securities and Exchange Commission (SEC) created settlement periods to allow time for buyers and sellers to physically exchange their respective halves of the trade.

While it no longer takes days to transfer money, settlement periods are still a factor in securities trading, creating the concept of unsettled funds.

The proceeds created by selling a security are considered unsettled funds from the time you place a trade order until the end of the settlement period, when the sale is considered completed. Stocks have a two-business-day (T+2) settlement period, so proceeds generated by selling stock in a cash account are considered unsettled for two business days following the trade date.

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A settlement period is from the date the trade is executed on the market to the date on which the trade is finalized — a two-business-day period (T+2). By the end of the settlement period, a buyer must have paid for the trade completely and the seller must have delivered the security.

For example, if a stock is sold on Monday, the trade is settled on Wednesday. ETFs follow the same rules as stocks and have a T+2 settlement period.

Other types of securities have different settlement periods. For instance, option trades settle one business day following the trade date (T+1).

While your funds remain unsettled until the completion of the settlement period, you can use the proceeds from a sale immediately to make another purchase in a cash account, as long as the proceeds do not result from a day trade.

Depending on your brokerage, the cash you can use to buy securities may be referred to as your “cash buying power" or “cash available to trade." It combines settled cash and unsettled proceeds.

If you purchase a security in a cash account with either insufficient funds or unsettled funds, you must hold that security until either you pay for it fully with a new deposit, or the settlement date of the trade that generated the funds for the purchase.

When you use unsettled sale proceeds to purchase another security, you agree in good faith to hold the new purchase until the funds from the original sale settle.

Read the Ally Invest Unsettled Proceeds Sales disclosure here.

While you can use unsettled funds to make another purchase in a cash account, you typically cannot withdraw unsettled funds. Only when they are fully processed and settled can you withdraw the funds.

The key is knowing if you bought the stock using settled or unsettled cash. If you bought it using settled cash, you can sell it at any time. But if you buy a stock with unsettled funds, selling it before the funds used to purchase have settled is a violation of Regulation T (aka a good faith violation). If you commit a violation, you'll be penalized with a 90-day restriction on your account.

While stock trades don't require the in-person cash handoff they did in the past, settlement periods still remain. Understanding unsettled funds and how you can and cannot use them will help you keep your trades in-line.