Using margin debt or borrowing against brokerage accounts was back in vogue in 2013. According to the New York Stock Exchange, investors borrowed $384.4 billion against their investments in April 2013, eclipsing the previous all-time high set in June 2007.
When you borrow on margin, you are committing securities like stocks and bonds in your brokerage account to borrow from the brokerage firm. Generally, these borrowed funds can be used at the borrower’s discretion. For real estate investors, margin loans can be a very attractive alternative to traditional bank financing and other types of hard money financing.
Here are 5 advantages of using margin loans to finance your real estate transaction:
1: Quick access to funds
Margin accounts essentially work like a line of credit. Once you have set up the margin account with your brokerage, you can borrow the funds as needed. Many brokerage firms require that you keep 30 to 50 percent of the total market value of the securities in your margin account at all times.
2: Competitive interest rates and transaction costs
Margin accounts offer competitive interest rates compared to other short-term borrowing options and generally have little or no transaction costs associated with the use of funds. Note that margin loans often have a base rate + structure that is equivalent to a floating rate (for example: 5.5% base rate + 3.625%). The base rate is established by the brokerage with reference to commercially recognized interest rates. If interest rates rise, your loan costs could rise very quickly.
3. Cash for Acquisitions and Financing Gap
For professional real estate investors and flippers, using margin debt for cash deals can mean the difference between landing a property and missing out on a great opportunity. Cash is king in this market and offers with financing contingencies go to the end of the line. Margin debt is also great for Gap Financing. For example, an investor who has just purchased a multi-family investment property may want to finance rehabilitation costs with a traditional construction loan that could take 30-60 days to be approved. The investor could use the funds from her margin account to start work and then pay the principal and interest with the construction financing when the loan is approved.
4. Investment interest is tax deductible
The interest paid on margin loans is known as qualified investment interest if the funds are used for taxable investment purposes and not for your own personal reasons. Investing in income properties counts, but not using the funds to purchase a personal residence. Investment interest expense is used to offset your net taxable investment income.
5. No established payment schedule
For most margin loans, you can pay down the principal at your convenience. This is ideal for real estate investors who need to sell or refinance a property to repay the borrowed funds. You can also use the proceeds from the sale of securities or dividend payments from the securities to pay off the principal balance. Although the principal payment schedule is indefinite, monthly interest charges will accrue on your account.
Margin loans can open many doors and are a great alternative to traditional bank loans, especially for short-term real estate investments. There are risks associated with margin lending that you should be aware of. Margin accounts are available to investors who can tolerate the risk of fluctuating markets and have the ability to meet margin calls. The US Securities and Exchange Commission is a good resource for information on the risks associated with lending on margin.
