When most people thing of using margin with their brokerage accounts, they are planning to buy and sell stocks in the account, hoping the leverage will provide outsized gains over time. However, money borrowed through a margin account can be used for whatever purpose you choose – buying stocks, purchasing a car, or perhaps adding a bathroom onto the house.
A refresher on margin
Margin trading is a strategy where investors borrow money from a broker to (usually) purchase securities. Investors are allowed to borrow up to 50% of their securities eligible for the margin loan and usually must maintain at least 25% to 30% equity in their margin account. Both of these numbers – the amount you can borrow and the maintenance requirement – vary by brokerage and often according to the types of securities in your account. You should contact your broker for precise information.
Margin loans provide a speedy source of money, in that once you enable margin in your account you normally gain access to the funds in just a few days. Additionally, as long as you meet the maintenance requirement, you have flexibility in repaying the loan, although you will have periodic interest payments come due.
But there are also downsides to margin loans. While interest rates are touted as low, for many purchases you can receive a better rate elsewhere. For instance, a recent review of margin accounts found Schwab and Fidelity charging interest rates at a little over 13% for amounts less than $50,000. And by using your securities as collateral in a margin account, you could be subject to a margin call if your equity falls below the maintenance requirement. In this instance, you would have to deposit additional funds or securities to satisfy the margin call.
Does it make sense for a non-stock purchase?
Honestly, this depends on your particular situation. Let’s look at an example of purchasing a car. I mentioned above that margin rates are touted as lower than other loan rates. And there are brokers out there who charge less than the big boys; one I found was under 8%. But I also found auto purchase interest rates for well-qualified buyers as low as 4.99%. For most people, using a credit union loan for a car purchase would be a better option than using a margin loan.
This of course raises the question of where you will get the funds to purchase the car. If you’re considering purchasing a car by selling stocks, the tax hit from capital gains might make a margin loan more palatable. However, if you’re withdrawing $15,000 out of savings and financing the rest, the margin loan makes little sense.
Keys if you go forward
If you decide to use margin for any purchase, keep these things in mind:
Try not to margin up to the limit of your account. While the government allows you to borrow up to 50% of your account, many brokerages limit this to a lower amount depending on your account’s makeup or their specific rules and regulations. If you can, consider using a small fraction of what’s available. If you have a $300,000 account and have $150,000 available, use a third of that or less. That way the threat of a margin call will be substantially reduced.
Consider what you will do if you get a margin call. Even before signing up for margin, run some numbers on your specific situation to determine how much you will be borrowing, what dollar amount in your account will meet your maintenance requirement, and what you will do if your balance falls below the maintenance requirement. Do you have a ready source of funds that you can deposit if that happens?
Develop a plan to pay interest (and the loan). Don’t assume just because you aren’t getting a monthly bill that you aren’t being charged interest. Set up a regularly-scheduled payment to minimize the loan amount as quickly as possible to reduce potential interest charges.
Keep an eye on your account. Especially if you are close to the limit of what you can borrow, watch your account closely. If you near the point at which you would receive a margin call, consider pre-funding your account to keep that call from happening.
In specific situations, using a margin loan for non-stock purchases may make financial sense. However, for most people, the threat of a potential margin call and higher interest rates mean you could do better by using a more traditional lending source.
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