An alternative to the classic loan for doctors

Debt is a four letter word, and some even consider it figuratively. But debt can be a useful financial tool when used correctly. Many people associate high interest credit cards with Wrong and think of mortgages and home equity lines of credit as Well debt because they allow a borrower to buy a home or help finance other important goals that would otherwise be out of reach. However, we would like to encourage physicians and other health professionals to consider another type of loan: a securities loan.

Another type of loan

Lenders have different names for this type of loan, including a pledged asset line, a securities loan, or a portfolio line of credit. But whatever their name, the idea behind it is the same: that a bank could provide a relatively safe and lucrative loan secured by a borrower‘s own portfolio. Specifically, a borrower pledges marketable securities against his or her non-retirement account (s). Banks are willing and perhaps willing to make these loans, given their net interest margin (essentially the difference between the interest banks charge on their loans and the interest banks pay on customer deposits) .

Borrowing from one’s own portfolio is not a new strategy, but it is worth revising given the current financial climate – one characterized by low cost borrowing rates, rather strict lending standards, in particular. for those with little current income, and portfolios that probably have unrealized capital gains.

The release rate, which is how much a bank will lend relative to the value of the collateral, often depends on the type of collateral. For example, cash equivalents and US Treasury bills are viewed by lenders as very reliable collateral and will often provide a generous discharge rate, typically around 95%. In other words, you can borrow up to 95 cents for every dollar of collateral in your wallet.

For many other common marketable securities such as stocks, mutual funds, and exchange traded funds, banks often assign a release rate of around 70%. It should be noted that there are assets that banks are not at all comfortable lending against, such as thinly traded stocks and private companies.

An alternative to mortgages

When exploring loan solutions, physicians would be wise to consider all of the available options. A traditional mortgage is, of course, something to consider and offers several advantages, including the possibility of securing a long-term fixed rate loan often inaccessible to those considering a securities loan. In addition, interest on a traditional mortgage may be tax deductible.

Our clients are using securities lending more in today’s environment than ever before. In our experience, this choice is often motivated by a need for short-term financing, the need to explore non-traditional lending options, or like a line of credit just in case.

For example, a client can sell an existing house and buy a new one. Sometimes the timing works well. But sometimes the down payment on the new home is required before the sale of the existing home closes. In these cases, a securities loan can close the gap while still allowing its portfolio to remain intact and avoiding any potential capital gains consequences of liquidating the investments.

Above all, it can pay off to negotiate. As stated earlier, banks love these loans because they are cost effective. Thus, letting them know that the loan will be used for a specific purpose, rather than just a line of credit in case, will encourage them to offer a more attractive interest rate. Financial advisers sometimes have relationships with lenders offering loaner securities and can help negotiate further. For example, our firm is often able to obtain interest rates that are significantly lower than those on mortgages and home equity lines of credit.

Consider the pros and cons

While a title loan can be a great option for some, it won’t work for everyone. Retirement assets such as these are an IRA or a 401 (k), sometimes the largest part of an investment portfolio, not collateral. In addition, this strategy involves certain risks. If the value of the collateral decreases, such as during a correction in the financial markets, the borrower may be forced to repay part of the loan. If the borrower does not have additional money to do so, the bank can force the sale of the pledged collateral.

Borrowers should be aware of this risk, which some say is high now because financial assets are expensive by many traditional valuation metrics. Therefore, a prudent strategy is often to establish the largest possible line of credit given the value of the collateral, but not to borrow the maximum amount allowed. The rationale behind this strategy is to secure the most attractive interest rate possible while allowing some cushion and providing peace of mind should the value of the collateral drop.

Here is a concrete example. A couple of our clients, who we’ll call Mark and Sara, wanted to buy a vacation home. Since most of them are retired, they lacked the earned income required by most traditional mortgage lenders. And although Mark and Sara had enough assets to buy the house, they were looking for alternatives that would allow them to capitalize on the near-record interest rates available to borrowers. We were able to help them secure a line of credit of over $ 1 million with an interest rate of less than 2%.

Mark and Sara borrowed about $ 500,000 (roughly half the purchase price) so they could keep their portfolio intact longer, earn more than the less than 2% interest rate on their loan, and avoid capital gains. capital they would have incurred if they sold investments to buy the house.

As long as a borrower understands the risks, a securities loan offers the possibility of very attractive interest rates, allows the borrower’s investment portfolio to remain intact, and can offer a loan option when others cannot. not be viable. In addition, there is generally no charge to set up a title loan and it is generally easier and faster to obtain than a traditional mortgage.

For these reasons, a securities loan should be part of your borrowing repertoire. Remember to establish the largest line available, negotiate the interest rate, and leave a cushion when you borrow. Do these things and enjoy the same success as Mark and Sara.

Daniel J. Duca, CFP, is Associate Director at Altfest Personal Wealth Management