Using your investments to generate a line of credit can be a good cash management technique.
With interest rates at historical lows, and the indication that they will remain that way have led many people, who are otherwise averse to borrowing, to consider taking out loans. I have spoken with clients that are taking out loans for a multitude of reasons; remodeling their house, investing in their business, starting a business, investing in real estate or to pay off credit card debt. This past year the most popular strategy for either reducing interest rates or to use the equity in their homes has been to refinance, take a home equity line of credit or perform a cash out refinance on their existing home. However, there is one strategy that is available to investors that is much less known. The strategy is to use your investment account to borrow money from your financial institution.
Here is how it works: The investor will pledge their brokerage account as collateral to the financial institution in order to take out a loan against those assets. The benefit of this strategy is that the investor can continue to maintain their entire account balance and keep their account fully invested. This loan is a secured loan because if the borrow does not make their required payments the brokerage firm can use the money in their account to make the payments for them. The money invested in the brokerage account is pledged as collateral against the loan. The borrower will pay interest on the loan just as they would a line of credit or any other type of loan. This interest will be collected by the brokerage firm. Here is an example of the offering at Charles Schwab. There are no fees to establish this loan and interest is charged only on the amount being borrowed. There is no stated expiration or maturity date for the line of credit.
The typical amount of borrowing power often relies on how the account is invested. If the account is highly concentrated into a single stock then the brokerage firm may not approve the loan. The majority of the time for a diversified portfolio of equities, firms will allow you to borrow 50% of the account balance. However, if the account is invested conservatively and has a percentage that is held in cash or a money market the borrowing percentage may be increased. As you can see from the example above Charles Schwab requires a minimum $100,000 balance in the account at the time of loan origination. When the account balance is within this range that borrower is paying the highest amount of interest. For larger accounts the rate becomes much lower and highly favorable. These lines of credits or loans have a very quick approval time and can typically be established within 7-10 business days.
This strategy should only be used for disciplined investors to grow wealth or acquire income producing assets. These loans cannot be purchased to buy more securities. This money should not be used frivolously or to pile on more debt. If you are interested in learning more about this strategy please let me know.
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