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Life is coming. At some point, you might need some quick cash for a down payment or to cover an unexpected expense, but you might not be sure if that warrants plundering your emergency savings. You might sell some of your investments, but depending on the market, it might not be the best time to take a profit. If the market is up, you’ll be collecting cash, but you’ll likely get a capital gains tax bill as well. If the market is going down, the sale could lead to a loss when you didn’t want it to.
But there is another option to consider: use your brokerage account for funding. Having a equity line of credit, or SBLOC, could give you access to cash so you can grab an investment opportunity or make ends meet when you’re stuck in a traffic jam.
Here’s an example: Let’s say you’re surprised with a sudden high tax bill and prefer not to drain your savings or sell stocks to pay it off. You also know that your annual work premium is coming in a few months. You can tap into your SBLOC to close the gap for now, paying off the loan once your bonus hits your checking account.
How title loans work
SBLOCs, also known as securities lending or portfolio financing, use your taxable brokerage account as collateral to secure a revolving line of credit. This means that you can choose the amount to borrow and repay without having set payments over a set period.
To qualify, brokerage firms offering this lending solution may require a certain account balance and will calculate the maximum credit available to you – the value of the collateral – based on the qualifying securities (usually stocks and bonds) in. your account.
With market volatility, you won’t receive a loan dollar for dollar, says Tolen Teigen, certified financial planner and chief investment officer at FinDec, a financial advisory firm based in Stockton, Calif.
“Maybe you can use 60 to 70% of the value of your securities portfolio as collateral,†he says.
And the amount of assets you have with the brokerage company usually plays into the interest rate you will get. Often times, the more assets you have in the business, the lower your interest rate will be, which is why SBLOCs often make more sense for those with larger account balances, Teigen explains.
Why Use a Equity Line of Credit
While there are some hurdles to overcome, establishing an SBLOC has advantages beyond avoiding tax consequences on unwanted capital gains or losses.
“This allows the investor to pursue their investment strategy without having to liquidate their holdings,” says Daniel Milan, managing partner at Cornerstone Financial Services in Southfield, Michigan. This means that you will not disrupt the asset allocation of your portfolio and can stay invested for the longer term.
“Typically, the investor has quick access to liquidity when they need to withdraw money from the line of credit, which creates flexibility,†says Milan.
Once your line is up, you can usually access the funds as needed within days. Even if you don’t need it, you can rest assured that you have a backup plan. Repayment is also flexible as long as the value of the required collateral is maintained.
Besides being fast, SBLOCs can also be a profitable option, given today’s low interest rates, says Stuart Blair, research director at Canterbury Consulting in Newport Beach, Calif.
However, you cannot use your line of credit on securities to purchase other securities or to repay margin loans.
What to keep in mind
There are risks associated with lines of credit based on securities. One of the most important is that the ups and downs of the market will affect the value of your account collateral.
When the value of the securities in your account falls below a certain threshold, the broker will issue a maintenance call or order to add more money or securities to your account. If you are not able to add more cash, you may see some of your titles sold to answer the call. And you might face an unpleasant surprise: Your brokerage firm has the right to liquidate positions – stocks, bonds and other securities in which you are currently invested – without informing you or asking for your opinion.
In addition, SBLOC prices are variable and not fixed. So even if interest rates are low now, they won’t always be and your rate could increase over time.
For these reasons, it’s important to use your equity line of credit wisely.
“An investor will need to determine the maximum amount of leverage they are comfortable with and develop a number of worst case scenarios to test their courage and courage,†said Blair.
When taking on any debt, it’s important to note a rule of thumb: don’t bite more than you can chew. Teigen and Milan agree that backing your SBLOC with less volatile securities (like stocks or blue chip bonds), using your line of credit sparingly, and having a concrete repayment plan are ways to mitigate risk and ensure that your title-based line of credit remains a useful tool.
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Tiffany Lam-Balfour writes for NerdWallet. Email: [email protected]
