Creative Finance 201: How to Use a Securities-based Line of Credit (SBLOC) to Invest in Real Estate
A securities-based line of credit (SBLOC) is a type of loan that allows you to borrow money using your investment portfolio as collateral. Unlike a margin loan, which is used to buy more securities, an SBLOC is a non-purpose loan, which means you can use it for any purpose other than purchasing securities.
An SBLOC can be a convenient and flexible way to access liquidity without disrupting your long-term investment strategy. You can use an SBLOC for various purposes, such as real estate, business capital, luxury purchases, or as a safety net. You can also avoid triggering capital gains taxes by using an SBLOC instead of selling your securities.
However, an SBLOC also comes with some risks and challenges, such as market volatility, margin calls, and interest payments. Therefore, before you decide to borrow against your investment portfolio, you should understand how an SBLOC works, what are the benefits and drawbacks, and what are the best practices to follow.
In this article, we will explain everything you need to know about SBLOCs.
In This Article
What is an SBLOC and How Does it Work?
A securities-based line of credit is a revolving line of credit that uses your investment portfolio as collateral. You can borrow up to a certain percentage of the value of your eligible securities, which is called the advance rate. The advance rate varies depending on the type and diversification of your securities, as well as the underwriting criteria of the lender. Generally, the more diversified your portfolio is, the higher the advance rate will be.
The interest rate of an SBLOC is usually variable, meaning it can change over time based on market conditions and the prime rate. The interest rate is also influenced by the amount of assets you have at the brokerage firm and the amount of credit you use. Generally, the more assets you have and the less credit you use, the lower your interest rate will be.
The repayment schedule of an SBLOC is flexible, meaning you can choose how much and how often to pay back the principal amount you borrow. You only have to pay the monthly interest on the outstanding balance, which is usually deducted from your brokerage account. You can also make additional payments toward the principal at any time, without any prepayment penalties.
The draw period of an SBLOC is the time during which you can access the funds from your credit line, up to your limit. The draw period is usually the same as the maturity date, which is usually 10 years from the date of approval. During the draw period, you can draw funds from your SBLOC as many times as you need, as long as you do not exceed your credit limit.
You can access the funds from your SBLOC by requesting a wire transfer, a check, or a direct deposit to your bank account. You can also use a debit card or a check linked to your SBLOC account to make purchases or payments. The funds are usually available within a few days of your request, depending on the method of delivery.
SBLOC Vs Margin Loan
A margin loan and an SBLOC are both types of securities-based lending, which means they use your investment portfolio as collateral. However, there are some key differences between them, such as:
A margin loan allows you to use the borrowed funds to purchase more securities, while an SBLOC does not.
A margin loan has a fixed loan-to-value ratio, which is the percentage of the market value of your securities that you can borrow, while an SBLOC has a variable loan-to-value ratio that depends on the type and volatility of your securities.
A margin loan has a variable interest rate that is based on your loan debit balance, while an SBLOC has a variable interest rate that is based on your credit limit and the amount of assets you have at the brokerage firm.
A margin loan requires monthly payments of interest and principal, while an SBLOC only requires monthly payments of interest and allows you to choose your own repayment schedule for the principal.
What are the Benefits of an SBLOC?
An SBLOC can offer several benefits for investors who need liquidity for various purposes, such as:
Real estate: You can use an SBLOC to purchase or renovate a property that you intend to rent out for income or sell for a profit. You can use the rental income or the proceeds from the sale to pay off the SBLOC and generate cash flow or equity.
Business capital: You can use an SBLOC to finance the start-up or expansion of a business, such as buying equipment, inventory, or marketing. You can use the income from the business to pay off the SBLOC and grow your enterprise.
Luxury purchases: You can use an SBLOC to buy a car, a boat, a vacation, or any other luxury item that you desire. You can enjoy the benefits of your purchase while paying off the SBLOC over time.
Safety net: You can use an SBLOC as a backup source of funds in case of an emergency or an unexpected expense, such as medical bills, home repairs, or education costs. You can avoid tapping into your savings or selling your securities and pay off the SBLOC when you have the means.
Another benefit of an SBLOC is that you can avoid triggering capital gains taxes by using an SBLOC instead of selling your securities. You can also deduct the interest you pay on the SBLOC if you use it for investment purposes, such as real estate or business.
3 Risks of Using an SBLOC
An SBLOC also comes with some risks and challenges that you should be aware of, such as:
Market volatility: The value of your securities can fluctuate due to market movements and the performance of your investments. If the value of your securities decreases, you must still repay the loan. You should consult with your financial advisor or your portfolio manager to better understand the level of risk associated with your assets.
Margin calls: If the value of your securities falls below the amount you borrowed, you may face a margin call, which is a request from the lender to restore the collateral value by depositing more securities, paying down some of the principal, or selling some of the securities. If you do not meet the margin call within the specified time frame, the lender may liquidate some of your securities without your consent, which may result in capital gains taxes and losses.
Interest payments: You have to pay interest on the amount you borrow, not on the entire credit line. The interest rate of an SBLOC may be higher than the return you earn from your securities, which means you may end up paying more in interest than you gain from your investments. You should have a plan to pay off the principal amount before the maturity date of the SBLOC, which is usually 10 years from the date of approval.
Best Practices For Using an SBLOC
To use an SBLOC effectively and responsibly, you should follow some best practices, such as:
Do not borrow more than what you need: You should only borrow the amount that you need for your specific purpose and avoid using the SBLOC as a source of extra cash. You should also avoid borrowing more than what you can afford to repay, based on your income and expenses.
Understand the terms of your agreement: You should read and understand the terms and conditions of your SBLOC agreement, such as the interest rate, the repayment schedule, the draw period, the maturity date, and the consequences of default. You should also be aware of the fees and charges that may apply, such as wire transfer fees, annual fees, or late payment fees.
Monitor your account balance and collateral value: You should check your account balance and collateral value regularly, either by reviewing your monthly statements, logging into your online account, or contacting your lender. You should also maintain a sufficient cushion of equity in your account, which is the difference between your collateral value and your outstanding balance. A larger cushion of equity can help you withstand market volatility and reduce the risk of margin calls.
Work with a professional team: You should work with a wealth advisor or a portfolio manager to understand the different types of asset classes in your portfolio and their volatility. You should also do your due diligence on the firm or institution that offers the SBLOC and understand who will monitor your account in connection to margin calls. You should also seek professional guidance and assistance if you have any questions or concerns about your SBLOC.
How To Qualify for an SBLOC
To qualify for an SBLOC, you need to have a brokerage account with a minimum balance of eligible securities, such as stocks, bonds, mutual funds, or ETFs. The minimum balance may vary depending on the lender, but it is usually $100,000 or more. You also need to have a good credit history and a stable income.
To apply for an SBLOC, you need to fill out an application form and provide some documents, such as your identification, income verification, and account statements. You also need to sign a pledge agreement, which gives the lender the right to use your securities as collateral. The lender will review your application and determine your credit limit, interest rate, and loan-to-value ratio. If you are approved, you can access the funds from your SBLOC within a few days.
There are limits of what you can borrow against your account which are discussed further below.
How To Use and Repay an SBLOC
Using an SBLOC for Real Estate
You can use the funds from your SBLOC for any purpose, as long as it is not to purchase more securities. You can also choose when and how much to draw from your credit line, up to your limit. You can access the funds from your SBLOC by requesting a wire transfer, a check, or a direct deposit to your bank account. You can also use a debit card or a check linked to your SBLOC account to make purchases or payments. The funds are usually available within a few days of your request, depending on the method of delivery.
Since SBLOCs are so flexible, you can use them for just about every type of real estate transaction. However, there is much more risk tied to this type of financing due to market volatility and the risk of being margin called. The most often use case for SBLOCS are:
Real-estate bridge financing: You can use an SBLOC to buy or build a new home before you sell your existing home. You can pay off the SBLOC when you receive the proceeds from the sale of your old home.
Home renovation: You can use an SBLOC to fund the costs of repairing or improving your home. You can pay off the SBLOC with your income or the increased value of your home.
BRRR: You can use an SBLOC to purchase or renovate a property that you intend to rent out for income. You can pay off the SBLOC with the rental income or the appreciation of the property.
Fix-and-flips: You can use an SBLOC to buy a property that needs repairs or upgrades, and then sell it for a profit. You can pay off the SBLOC with the proceeds from the sale of the property.
Commercial developments: You can use an SBLOC to finance the construction or acquisition of a commercial property, such as an office building, a retail store, or a hotel. You can pay off the SBLOC with the income or the equity from the property.
Repaying an SBLOC
You can make additional payments toward the principal amount at any time, without any prepayment penalties. This will reduce your outstanding balance and interest payments, and increase your available credit limit. You can pay off the entire principal amount before the maturity date of the SBLOC, which is usually 10 years from the date of approval. This will close your SBLOC account and release your securities from the pledge agreement.
You can make payments by wire transfer, check, or direct deposit to your SBLOC account. You should also continue to pay the monthly interest on the outstanding balance, which is usually deducted from your brokerage account.
SBLOC Terms and Definitions
Once you have qualified for an SBLOC, you can start using it to fund your real estate investments. In this section, we will explain the features and terms of an SBLOC, such as the interest rate, the repayment schedule, the draw period, and the maturity date. We will also explain how to access the funds, how to make payments, and how to monitor the account balance and the collateral value.
Interest rate
The interest rate of an SBLOC is usually variable, meaning it can change over time based on market conditions and the prime rate1. The interest rate is also influenced by the amount of assets you have at the brokerage firm and the amount of credit you use. Generally, the more assets you have and the less credit you use, the lower your interest rate will be.
The interest rate of an SBLOC is typically lower than most other types of loans, such as mortgages, home equity loans, or personal loans. This is because the SBLOC is secured by your securities, which reduces the risk for the lender. However, the interest rate of an SBLOC may be higher than the return you earn from your securities, which means you may end up paying more in interest than you gain from your investments.
Repayment schedule
The repayment schedule of an SBLOC is flexible, meaning you can choose how much and how often to pay back the principal amount you borrow. You only have to pay the monthly interest on the outstanding balance, which is usually deducted from your brokerage account. You can also make additional payments toward the principal at any time, without any prepayment penalties.
However, you should not rely on the minimum interest payments as your only repayment strategy. You should have a plan to pay off the principal amount before the maturity date of the SBLOC, which is usually 10 years from the date of approval2. If you do not pay off the principal by the maturity date, you may have to renew the SBLOC, which may result in higher interest rates and fees, or liquidate some of your securities, which may trigger capital gains taxes and disrupt your investment strategy.
Draw period
The draw period of an SBLOC is the time during which you can access the funds from your credit line, up to your limit. The draw period is usually the same as the maturity date, which is usually 10 years from the date of approval2. During the draw period, you can draw funds from your SBLOC as many times as you need, as long as you do not exceed your credit limit.
You can access the funds from your SBLOC by requesting a wire transfer, a check, or a direct deposit to your bank account. You can also use a debit card or a check linked to your SBLOC account to make purchases or payments. The funds are usually available within a few days of your request, depending on the method of delivery.
Collateral value
The collateral value of an SBLOC is the amount of credit you can borrow based on the value of your securities. The collateral value is calculated by applying a loan-to-value (LTV) ratio to the eligible securities in your account. The LTV ratio is the percentage of the market value of your securities that you can borrow. For example, if you have $100,000 worth of eligible securities and the LTV ratio is 70%, your collateral value is $70,000.
The LTV ratio varies depending on the type and volatility of your securities. Generally, the more stable and diversified your securities are, the higher the LTV ratio will be. For example, stocks and bonds may have higher LTV ratios than mutual funds and ETFs, which may have higher LTV ratios than options and futures.
The collateral value of your SBLOC can change over time, depending on the market fluctuations and the performance of your securities. If the market value of your securities increases, your collateral value and credit limit may also increase. If the market value of your securities decreases, your collateral value and credit limit may also decrease.
Margin Calls
If your collateral value falls below your outstanding balance, you may face a margin call, which is a request from the lender to restore the collateral value by depositing more securities, paying down some of the principal, or selling some of the securities. If you do not meet the margin call within the specified time frame, the lender may liquidate some of your securities without your consent, which may result in capital gains taxes and losses.
To avoid margin calls, you should monitor the account balance and the collateral value of your SBLOC regularly. You can do this by checking your monthly statements, logging into your online account, or contacting your lender. You should also maintain a sufficient cushion of equity in your account, which is the difference between your collateral value and your outstanding balance. A larger cushion of equity can help you withstand market volatility and reduce the risk of margin calls.
Common Mistakes Made with SBLOCS and How to Avoid Them
Using SBLOCS to invest in real estate can be a smart and profitable strategy, but it also involves some pitfalls and risks that you should be aware of and prepared for.
Market volatility
Market volatility is the fluctuation of the value of your securities due to changes in market conditions and the performance of your investments. Market volatility can affect your SBLOC in two ways:
It can reduce your collateral value and credit limit, which may limit your borrowing capacity and your ability to fund your real estate projects.
It can trigger a margin call, which is a request from the lender to restore the collateral value by depositing more securities, paying down some of the principal, or selling some of the securities.
To avoid market volatility, you should:
Monitor your account balance and collateral value regularly, either by reviewing your monthly statements, logging into your online account, or contacting your lender.
Maintain a sufficient cushion of equity in your account, which is the difference between your collateral value and your outstanding balance. A larger cushion of equity can help you withstand market fluctuations and reduce the risk of margin calls.
Diversify your portfolio with different types of securities, such as stocks, bonds, mutual funds, or ETFs, that have different levels of risk and return. Diversification can help you reduce the impact of market volatility on your portfolio and increase your loan-to-value ratio.
Hedge your portfolio with options, futures, or other derivatives, that can help you protect your portfolio from adverse market movements and lock in your profits. Hedging can help you reduce the risk of margin calls and losses.
Margin calls
A margin call is a request from the lender to restore the collateral value by depositing more securities, paying down some of the principal, or selling some of the securities. A margin call can occur when the value of your securities falls below the amount you borrowed, which can happen due to market volatility, poor investment performance, or excessive borrowing.
A margin call can have serious consequences, such as:
It can force you to liquidate some of your securities at a loss, which may trigger capital gains taxes and disrupt your investment strategy.
It can reduce your borrowing capacity and your ability to fund your real estate projects.
It can damage your credit score and your relationship with the lender.
To avoid margin calls, you should:
Monitor your account balance and collateral value regularly, either by reviewing your monthly statements, logging into your online account, or contacting your lender.
Maintain a sufficient cushion of equity in your account, which is the difference between your collateral value and your outstanding balance. A larger cushion of equity can help you withstand market fluctuations and reduce the risk of margin calls.
Borrow within your means and do not exceed your credit limit. You should only borrow the amount that you need for your specific purpose and avoid using the SBLOC as a source of extra cash.
Have a plan to pay off the principal amount before the maturity date of the SBLOC, which is usually 10 years from the date of approval. You should also make additional payments toward the principal whenever possible, to reduce your outstanding balance and interest payments.
Tax implications
Using an SBLOC to invest in real estate can have some tax implications that you should be aware of and prepared for, such as:
Capital gains taxes: If you sell some of your securities to meet a margin call or to pay off the SBLOC, you may incur capital gains taxes on the difference between the sale price and the purchase price of the securities. Capital gains taxes can reduce your net profit and affect your cash flow.
Interest deductions: If you use the SBLOC for investment purposes, such as real estate, you may be able to deduct the interest you pay on the SBLOC from your taxable income, which can lower your tax liability and increase your cash flow. However, you should consult with a tax professional to determine the eligibility and the amount of the deduction, as there may be some limitations and rules that apply.
Property taxes: If you use the SBLOC to purchase or renovate a property, you may have to pay property taxes on the value of the property, which can increase your expenses and affect your cash flow. Property taxes vary depending on the location, type, and size of the property, and they may change over time due to market conditions and tax assessments.
To avoid tax implications, you should:
Consult with a tax professional to understand the tax consequences of using an SBLOC to invest in real estate, and to plan your tax strategy accordingly. You should also keep track of your transactions, receipts, and statements, to support your tax filings and deductions.
Avoid selling your securities to meet a margin call or to pay off the SBLOC, unless absolutely necessary. You should instead try to deposit more securities, pay down some of the principal, or use other sources of funds, to avoid triggering capital gains taxes and disrupting your investment strategy.
Consider the tax benefits of using the SBLOC for investment purposes, such as real estate, and deduct the interest you pay on the SBLOC from your taxable income, if eligible. You should also consider the tax benefits of holding your securities for more than a year, which can qualify you for lower long-term capital gains tax rates.
Research the property taxes of the location, type, and size of the property you intend to purchase or renovate, and factor them into your budget and cash flow projection. You should also be prepared for possible changes in property taxes due to market conditions and tax assessments.
Contingency planning
Contingency planning is the process of preparing for possible scenarios and events that may affect your SBLOC and your real estate investments, such as market downturns, margin calls, tax audits, legal disputes, or natural disasters. Contingency planning can help you minimize the impact and damage of these scenarios and events, and help you recover and resume your operations as soon as possible.
To do contingency planning, you should:
Identify the potential scenarios and events that may affect your SBLOC and your real estate investments, and assess their likelihood and severity. You should also consider the internal and external factors that may influence or trigger these scenarios and events, such as your portfolio performance, your borrowing behavior, your tax compliance, your legal compliance, and the market conditions.
Develop the contingency plans that outline the actions and steps you will take to prevent, mitigate, or cope with these scenarios and events. You should also assign the roles and responsibilities of the people who will execute the contingency plans, such as your financial advisor, your portfolio manager, your tax professional, your legal professional, your lender, or your service provider.
Implement the contingency plans when the scenarios and events occur, and monitor and evaluate their effectiveness and outcomes. You should also update and revise the contingency plans as needed, based on the feedback and lessons learned from the implementation.
FAQs
What are the benefits of using SBLOCS for real estate?
You can access cash without selling your securities and paying taxes, deduct the interest from your income if you use it for real estate, use it for various real estate projects, and keep the ownership and growth of your securities .
What are the risks of using SBLOCS for real estate?
You may face market volatility, margin calls, tax implications, and legal issues that can affect your SBLOC and your real estate investments. You should be prepared for these scenarios and events, and consult with professionals to understand and mitigate the risks .
How do I qualify for an SBLOC?
You need to have a brokerage account with a minimum balance of eligible securities, such as stocks, bonds, mutual funds, or ETFs. The minimum balance may vary depending on the lender, but it is usually $100,000 or more . You also need to have a good credit history and a stable income .