So you’re looking to invest, but don’t have the capital. Nothing wrong with that. Borrowing money to invest is quite common, and is a great opportunity for many.
However, it does not come without risk. Like any pleasure in life, consequences are present.
Keep reading to learn what you need to know about loans for investing.
Why Should I Borrow to Invest?
Before we get into the risks and mitigating them, let’s take a look at why you should borrow to invest in the first place.
These points are not definitive and can provide opportunity, not sureties.
Deduct Interest on Debt Used for Purchasing Dividend Stocks
Almost all stock dividends come with a qualified dividend income, which means the government will tax them at a certain rate.
Even though a qualified dividend is usually taxed lower than normal income, they are still taxable in your portfolio. Therefore, any of the interest in debt used for purchasing the stocks can be deducted against your net investment income.
In fact, the CRA has present a deduction for borrowing to invest in non-dividend-paying stocks, as the potential of them paying one day still presides.
Deduct Interest Against Income From Multiple Debt-Financed Investments
Investors can often come to be shocked when they find out that investment interest can be deducted against net investment income from all of their portfolios.
Therefore, an investment that is financed with debt and has no yield can still be used to deduct all interest if you have enough investment income on other accounts.
This provides room for tax arbitrage. For example, if you borrow to finance preferred shares paying dividends stock and it is taxed at 20%, but you end up deducting the interest from a bond portfolio taxed at 34%.
Deduct Investment Interest Against Capital Gains
Short-term capital gains are usually included in net investment income against which you can deduct.
Long-term capital gains and QDI are not. However, if you possess additional deductible interested, you can speak to your accountant who can help you make a tax election. This will help you deduct interest against the long-term gains as well.
Support Borrowing With Bond Portfolio – Receive Tax-Exempt Income
If you choose to pledge municipal bonds to finance debt, the interest on the debt will be nondeductible, regardless of the purpose.
However, if you borrow against a municipal bond, then there will be no impact on the tax of the bond coupons. So they retain their tax-exempt features.
Meaning using municipal bonds as collateral when use finding debt for deductions does not make sense. But if you need to match a nondeductible expense, you can borrow against the bonds without taxation side-effects.
If the Province Does Not Have Interest Deductions, Borrowing to Invest Is Still of Value
Some provinces do not provide income tax deductions for interest, and/or limit them to the highest-income tax residents. But even if you live in such a province, the use of this credit can still make sense for you.
You already probably pay a chunk of income taxes to a federal government, which in fact does allow the deduction. So the interest expense on investment might not be that significant for you, but it can still help you find tax savings within the year.
Borrowing Money to Invest Is Risky
As one would gather, borrowing money means you will have more money to invest. By doing so, you get to increase returns or make bigger transactions, such as property or land. Not to mention the tax benefits.
But when you borrow some, there is more to lose. The risks are:
The value of your investment has the potential for depreciating. If you have to sell it quickly, you may no longer be able to cover the balance.
With a variable rate loan, the interest can increase over time. If the interest went up by 4%, could you still afford it?
The income from the investment might not meet your expectations. A renter might move out or a company might not pay a dividend. Prepare yourself for times when income is decreased, but you still have to pay the loan.
If you borrow money to invest, the amount you will lose if the investment falls through is sky-high. You will have to pay the loan and interest – regardless of the result of your investment.
How To Mediate the Risk of Investment Loans
If you do choose to get an investment loan, follow these guidelines to prevent common risk faults.
Find the Best Loan
When you’re looking to borrow money to invest, you have to take note of all the opportunities. By looking around and finding the best loan, you can save interest and interstitial fees that would make your loan less equitable.
If you’re looking for quick and secure loan, get in touch with us.
Don’t Go Overboard
Never borrow the entire amount a lender offers you. The more you have to borrow, the more you have to pay back. So if an investment falls through, you’ll be stuck with a large hole in your pocket.
Pay the Payments
Interest payments will prevent the loan from getting bigger. Instead of growing the loan against you, depreciate it for you.
Set Aside Rain Day Capital
A rain day capital should be easily accessible and dedicated specifically to the loan. If you need cash to repay, you don’t want to be reselling your investment, which might go “BOOM” in the near future.
Borrowing money to invest in a single source is a bad idea. “Never put all your eggs in one basket,” is the saying. Diversify your investments, so that if a company falls, you don’t fall as well.
Borrowing Money to Invest – Done Right
Now that you know the advantages of borrowing money to invest, the risks of doing so, and the approach to mediating them, you are well on your way to establishing if borrowing is right for you.
After all, this is your life and your choice. So choose wisely. Whatever you decide on will be best for you.
If you want a quick no-credit loan, check us (CaptainCash) out and we will happily accommodate your needs.