Do you need quick cash but hate dipping into your emergency fund? Are you tempted to sell assets for cash? If you own stock, selling shares may seem like a good idea when you need money. However, you could be hit by capital gains taxes if you sell appreciated stock. And if you were investing in stocks to secure your financial future, selling appreciated shares can work against your long-term goals. Rather than raiding your savings account or selling off shares when you need cash, can you use stocks as collateral for a loan?
What is collateral?
Collateral is any asset of value you own that can be used to secure a loan. Real estate, savings accounts, investment accounts, and cars can be used as collateral.
For an asset to be used as collateral, it must be in your name and have enough value to secure the loan. As you can imagine, lenders gain an extra layer of lending security when borrowers use collateral.
However, borrowers may face added risks, particularly if they’re unable to repay the loan. When you use an asset as collateral, you are giving the lender the right to liquidate your asset to recover its funds if you are unable to keep up with your debt obligations.
How does using stocks as collateral work?
To take out a stock collateral loan, the lender will review the value of your stock portfolio and approve you for a funding amount accordingly. It is likely to also consider additional factors, such as your credit score and income level.
Most of the time, you’ll only be able to borrow up to 50% of the value of your stock portfolio. If you have $10,000 in stocks, for example, most lenders won’t approve you for a loan worth more than $5,000. However, exceptions exist in certain cases.
Once the lender approves you for the loan, you’ll receive the lump sum amount and make payments according to the agreed terms. In other cases where you want to take out a stock collateral loan, you’ll need to transfer ownership to the lender, who will own the stocks during the life of your loan.
A loan with stock as collateral is known as a security-based loan, a stock-based loan, or a stock collateral loan.
How to get a loan using stocks as collateral
Using stock as collateral for a loan can mean several different things. Take a look at the two most common scenarios.
When you trade on margin, you borrow money from a broker to make an investment, while using that investment as collateral. This strategy is used by many professional investors to effectively own more stock without having to pay for all of it.
The idea is that if the stocks increase in value, investors will be able to repay their debt and keep some for themselves. Unfortunately, this strategy comes with significant risk, and the potential for loss can be great.
2. Security-based lines of credit
A security-based line of credit is offered by your stockbroker or bank. It will review the value of your stock portfolio and approve you for a credit line, typically up to 50% of your stock portfolio’s value.
You’ll be able to withdraw from your approved credit line as you need. Plus, you’ll only need to pay interest on the amount you borrowed.
Pros and cons of using stocks as collateral
Like most financing options, you’ll find pros and cons to using stocks as collateral. Take a look at how these choices compare to understand whether a stock collateral loan is a good solution for you.
- Improve your chances of getting approved for a loan
- Help you access better interest rates
- Increase your potential funding amount for a loan
- Use funds for whatever means you deem fit
- You’ll usually only receive 50% of the full value of your portfolio instead of the full value.
- Since the value of your assets could fluctuate, you could owe more money than you’ve borrowed.
- If you’re unable to make payments on your loan, your lender can liquidate your stock to recover their funds.
Other assets you can use to secure a loan
Stocks aren’t the only assets that can be used to secure a loan. Other options include a home, boat, car, retirement account, artwork, and more. As long as the assets are in your name and hold enough value to cover the loan, they can be used as collateral.
What to know before signing a loan agreement
Taking out a loan shouldn’t be a decision you make lightly. Loans can stay on your credit report for years and have major financial repercussions. Make sure to take into account all the factors if you’re thinking of signing a loan agreement.
1. How much are you borrowing?
Also known as the loan’s funding amount, this represents how much money the lender will grant you and how much you’ll need to pay back, plus interest.
Depending on the value of your stock portfolio as well as your credit score and income levels, you may be approved for a higher funding amount than you actually need. Ideally, you only want to borrow as much as you need or as much as you can reasonably pay back.
2. What is the APR?
The Annual Percentage Rate (APR) represents the overall yearly cost of a loan, shown as a percentage of the funding amount. APRs take into account interest rates as well as other loan-related fees.
3. Are there any penalties for early repayment?
Some lenders impose penalties or fines if your payments are late. Other times, you may be charged a prepayment penalty if you pay your loan off early.
It’s a good idea to find out if any of these clauses exist. You may want to avoid them or at least negotiate them down if at all possible.
4. How much are the monthly payments?
Your monthly payments will consist of your principal and interest over the term of the loan. Your principal is part of your total borrowed amount, and each month you make your payment you’ll be closer to paying it off.
5. What happens to your collateral if you can’t repay the loan?
If you can’t repay your loan, the lender can recover the funds by selling your collateral.
Should you use stocks for a collateral loan?
Choosing to use stocks as collateral for a loan is not an easy decision to make. Carefully consider why you need the funds and if you are willing to risk losing your stock if you can’t make your loan payments.
Nevertheless, using stocks as collateral for a loan can be a great way to get your hands on more liquidity. The approval process may be quicker when you use stock as collateral, and you may even qualify for a lower interest rate. The bottom line – your investment portfolio gives you resources to access credit when you need it.
Can you get a loan using stock?
You may be able to borrow against the value of your stock portfolio to get a loan. Lenders may loan you up to 50% of your portfolio’s value and hold your stock as collateral. But if you can’t make your monthly payments, the lender can sell your collateral to recover what it is owed.
Can assets be used as collateral?
Assets, such as real estate and investment accounts, can be used as collateral when their value is high enough to secure the loan.
Can you use stocks as collateral for a mortgage?
A mortgage is secured by the real estate you are financing. Stocks are typically used as collateral to secure a personal loan.