There are occasions when even wealth clients need some cash and they don’t want to sell assets to generate it. That stands to reason because smart clients don’t want to take on short-term gain for the longer-ranging pain of tax consequences.
Plus, there’s an emotional component. For better worse, humans get emotionally tied to things such as houses, art collections and the like and thus don’t want to outright part with those assets, even when they need to raise capital.
For years, one of the primary fixes, at least for homeowners, has been the home equity line of credit (HELOC). HELOCs offer immediate liquidity and utility, acting as stopgaps for emergency financing needs, but they aren’t the only game in town when it comes to borrowing against. In fact, some other options may be appealing to affluent, sophisticated clients because these ideas allow them to extract cash from their portfolios without selling securities. Let’s examine a pair of these ideas here.
Margin Loan Ins and Outs
Margin loans usually allow for the borrower to borrow up to 50% of a marginable securities value. So a client with $100,000 in Apple stock could borrow up $50,000 against that position.
Typically, experienced traders use margin loans to finance other trading opportunities without having to sell a winning position and pay capital gains taxes. That’s one perk. Another is that margin loans typically have lower interest rates than credit cards or personal loans.
The loan can be drawn on and replenished and is good for meeting short-term needs, but it’s not risk-free proposition, either.
“If the value of your margin account falls below the maintenance requirement—the minimum dollar amount that you must maintain in the margin account once you've tapped the funds—your brokerage will issue a maintenance call, which requires you either to deposit more money or marginable securities or to sell some of the assets held in your account,” according to the Schwab Center for Financial Research.
It’s also worth noting that margin loans work best in diversified portfolios because if the loan is taken on heavily concentrated bets and one or two of those stocks decline in a big way, the borrow could face a margin call and that’s rather unpleasant.
Sizing Up SBLOCs
A securities-based line of credit (SBLOC), offered by any number of reputable brokers, is potentially more appealing to a broader swath of clients because it allows for substantially all of the stocks, bonds, or ETFs in a taxable account to be borrowed against and the loan-to-value rates are usually 65% or 70%, so the borrower gets more than with a margin loan.
Generally, $100,000 is the minimum level in securities needed to get an SBLOC and the risk is similar to that of margin loan in that if the value of the pledged asset declines too rapidly, the lender can make a call on the loan. Said another way, better to get an SBLOC on a stock like Coca-Cola (KO) than on that $3 drone stock you read about on Reddit.
“For individuals with uneven cashflow, an SBLOC provides quick access to cash to help with income smoothing throughout the year,” adds Schwab. “You can also use this loan to temporarily bridge two financial transactions. For example, business owners can use an SBLOC to purchase inventory or needed business equipment, or a homeowner can use the loan amount to buy real estate in a hot market before they sell their current residence.”
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