Kristen D’Andrea, The Daily Record Newswire
When looking for money to improve a home or start a business, borrowers usually consider traditional lending options like home equity or a business line of credit. Most overlook securities-based lending or setting up a margin arrangement to borrow against existing holdings on a brokerage account.
Popular during the tech boom of the late 1990s, when the stock market raged, securities-based lending is now picking up again, as borrowers become more familiar with its advantages, said Aaron Schenkman, a financial adviser at Kuttin-Metis Wealth Management in Melville.
But it’s not spreading as fast as it might – at least, not until the many uses of securities-based lending comes clear, noted Michael Kresh, chief investment officer and managing member of Creative Wealth Management in Islandia.
“People know it’s available,” Kresh said. “But not a lot realize it’s available to use for something other than buying more stock.”
There’s a distinction between margin borrowing and taking out a securities-based line of credit. While a margin loan enables individuals to buy additional securities, a securities-based line of credit is a non-purpose loan that can be used for anything but buying securities.
Possible uses include real estate, construction or business needs; college tuition or paying off student loans; emergency expenses; and major events like a wedding, said Steve Brett, president of Marcum Financial Services in Melville.
Here’s how it works: Effectively, people use their investment portfolio as collateral for a line of credit. While there are myriad industry regulations on how the margin on the account can be used, individuals can generally borrow up to 50 percent of their account, Schenkman said.
One of the main benefits is that securities don’t have to be sold to access the money. Margin rates are very competitive, in the 6 to 7 percent range, Schenkman said. At Kuttin-Metis, if a client borrows more than $100,000, the rate on the loan is negotiable and could go as low as 4 percent in this environment, he added.
As a general rule, the more money borrowed, the lower the interest rate. Individuals with a securities-based line of credit of a couple million dollars can often borrow at a rate lower than 2 percent, according to Bryant Sheftick, a Huntington Station accountant.
“It’s a powerful tool for people who can get it,” Sheftick said.
Other benefits include quick turnaround time. Once a credit check is completed, securities are evaluated and the line of credit may be issued, often in as little as five days, Sheftick said. Additionally, this type of lending offers a more simplified process than traditional lending; it doesn’t incur any legal, set-up or title fees, or any transfer or closing costs, he added.
“It’s an effective way of borrowing money from yourself,” Schenkman said, noting interest charged on a margin loan may also be tax-deductible against interest income because it’s considered interest expense.
Still, there is the risk of borrowing on equity tied to the market.
“If the market goes down, [the brokerage firm] could force you to sell your securities to pay off the loan,” Kresh said.
“It is somewhat risky,” Brett agreed. “But the last couple of years have hidden that because of how the stock markets have performed.”
Additionally, the loan becomes part of the balance sheet of the entity giving the credit, said Sheftick, who cautions borrowers to research the entities to determine if their collateral would be protected if, for instance, the financial institution went out of business, exposing everything on their balance sheet to creditors.
While home equity and securities-based lines of credit are similar forms of asset-based lending, choosing which is better is case-specific, depending on an individual’s circumstances, equity in their home and tax bracket, Schenkman said.
Securities-based lending “is a strategy typically used by sophisticated investors with a high tolerance for risk,” he said.
For people who have equity in their homes, Kresh recommends taking out a home equity loan over a margin loan.
“If you have no access to a home equity line because you’re already tapped out, does it pay to have additional debt?” he said. “You have to look at the risk.”
Kresh recommends people only borrow if they are certain the total return will be significantly higher than the cost of borrowing.
“It’s 10 times better than borrowing from your credit card but only one-tenth as good as taking out a home equity loan,” Kresh said.
