The SPDR S&P 500 ETF Trust (SPY) is up by a staggering 70% since the lows reached during the grip of the pandemic. Stretching back further to the depths of the Great Recession, the market-tracking ETF is up by more than 500%. Those are some serious gains for investors. The problem is accessing those gains without triggering nasty tax consequences.
The answer may lie in borrowing rather than selling those shares.
Investors may be familiar with a so-called margin loan. Here, securities are pledged as collateral in order for investors to buy additional shares or assets. This leverage effect can produce outsized gains for a portfolio. However, margin loans do have some drawbacks. One being that they come with relatively high interest rates. Afterall, there’s risk for the lending institution since they know you’re going to buy more stock or derivatives with the shares.
Margin loans have a potentially better cousin that can allow investors to use the gains in their portfolios more effectively. Called a portfolio line of credit, this sort of loan works in a similar yet different manner.
Like a margin loan, a portfolio line of credit allows investors to pledge assets as collateral for cash. They retain ownership of shares. The beauty is two-fold.
- First, interest rates for portfolio lines of credit are lower than margin loans since you are not permitted to buy stock with them. Interest rates are often lower than other forms of credit, including credit cards, HELOCs, student loans and even mortgages.
- Secondly, there is a real tax savings available by not having to sell your investments. For example, selling $2 million worth of investments to buy a vacation home comes with a nasty $476,000 tax bill, assuming the long-term cap gains rate of 20% and the 3.8% Medicare surcharge. Under President Biden’s current tax proposals that number would be closer to $876,000. The real win is that investors still own their shares. Assuming a conservative 6% annual return, the $2 million in our example will turn into more than $3.5 million in about a decade.
With a portfolio line of credit, investors can potentially have their cake and eat it too.
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