Summary:
A client recently needed significant capital to buy a small business. They wanted to tap into their portfolio for some of it, but selling stock to help fund the purchase would have triggered a huge capital gains tax bill. I showed them how borrowing against the portfolio instead, using a securities-backed line of credit (SBLOC), would let them keep the full amount invested and avoid the capital gains tax hit. Here’s the math on how this works and what can go wrong.
Selling stock isn’t your only option to finance a business purchase.
There are many points in life when you need a big chunk of capital.
Buying a business is a common one. Your investment portfolio is a natural place to look for quick capital, but selling stocks can lead to significant capital gains. But a bigger problem is losing out on future gains for the portion you’ve sold.
People assume selling is the only option they really have. Most people don’t realize they can borrow against their portfolio.
Lots of people have heard about “rich people” who borrow against their assets and never incur capital gains. But they assume that’s for the multi, multi millionaires and billionaires. The option is actually more accessible than a lot of people think it is. Many large brokerages offer this to investors with portfolios as low as $500,0001.
What selling stock costs you.
Let’s do the math.
Say you need to raise $500,000.
You have stock that you can sell to finance the purchase. But $100,000 of that sale is going to be capital gains. If you’re at a 15% long-term capital gains rate, you’re paying $15,000 in taxes on the gain before any additional state taxes or NIIT.
You’ll start with $500,000 in your portfolio, but end up with only $485,000 in cash after selling so you still need another $15k to make up the difference.
What borrowing against your portfolio costs.
A Securities-Backed Line of Credit (SBLOC) lets you borrow against your portfolio without selling anything. No shares change hands, no capital gains.
So what’s the catch? The loan will cost you in the form of interest.
Let’s say the rate on the SBLOC is 7.5%2 (rates on these are variable and move with the market, so treat this as an example, not a quote you should expect).
On $500,000, that’s:
$500,000 × 7.5% = $37,500 a year in interest.
That sounds like a lot next to a $15,000 one-time tax bill. Until you account for what the gains in your portfolio because that $500,000 had stayed invested. A stock heavy portfolio generating an expected 9.0% gross return3 could result in:
$500,000 × 9.0% = $45,000 in portfolio returns.
Compare that to the $37,500 in interest, and you’re theoretically coming out about $7,500 ahead in a given year.
Here’s a table to sum up the comparison:
| Option 1: Selling Stock from Your Portfolio | Option 2: Borrowing Against Your Portfolio | |
| Capital Needed | $500,000 | $500,000 |
| – Capital Gains | ($15,000) | $0 |
| – Loan Interest | $0 | ($37,500) |
| + Portfolio Returns | $0 | + $45,000 |
| Net Result: | $15,000 lost to capital gains | $7,500 gained between the cost of the loan the portfolio returns |
That last row in that table is the punchline: borrowing lets the money in your portfolio continue to grow. Selling means it stops growing.
As long as the growth rate of your portfolio is higher than the amount you’re borrowing, you may be able to make a spread on your borrowing cost while avoiding capital gains.
One More Thing: The interest on an SBLOC loan may be deductible if you’re using the funds to buy a business.
One more point to add to the SBLOC tally. Interest on an SBLOC can be deductible, but it depends entirely on how the borrowed funds are actually used. The IRS traces loan proceeds to their use, not to the collateral behind them.
If the funds go toward acquiring a business, there’s a case for treating it as investment or business interest, subject to some limitations. But this is the kind of detail that requires you to work closely with a CPA or other licensed financial professional to ensure you have the right structure to take the deduction.
What can go wrong.
This all sounds great, right? There are some downsides you need to be aware of.
An SBLOC is typically structured as a demand loan, the lender can require you to pay it back whenever they want, not just when you miss a payment.
If the market drops and your collateral value falls with it, you can get hit with a maintenance call. Meaning you need to top up your account balance. If you can’t post more collateral, the lender sells your securities for you, at whatever price the market happens to be offering that day.
Rates are variable. Whatever interest rate you initiate your SBLOC at isn’t what it will be going forward. The SBLOC rates move with broader interest rate trends. If rates go down, then this works in your favor. But if rates go up, you’ll end up owing more on your loan.
Let’s chat.
If you’re working through how to fund a major purchase without selling pieces of a portfolio you’ve spent years building, I’d be happy to help you think through the specifics. Reach out to me at the email below.
Nathan
Founder & Lead Advisor
[email protected]
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Kangpan & Co. is a flat-fee financial advisory firm specializing in helping mid-career professionals navigate the career, family, and financial tradeoffs that come with this stage of life. This content is for educational purposes only and is not financial, legal, or tax advice. Consult a licensed advisor for help with your individual situation. Employees and clients of Kangpan & Co. may hold positions discussed in our content. Past performance is no guarantee of future results.
1. Each financial institution has different minimums and requirements for their SBLOC programs. Work with a licensed professional if you’re researching options.
2. This rate varies widely between different institutions and the amount you are setting aside as collateral. This is purely for illustrative purposes and not a quote you should expect.
3. Markets do not return a steady 9.0% a year. This is for illustrative purposes only. Investing involves risk, including the loss of capital. Past performance is not indicative of future returns.