The power of leverage
How — and when — borrowing against your fine art, investment portfolio, real estate or other valuable assets could be a key part of your wealth strategy
Many investors who wouldn’t think twice about a business that took on debt to fund growth might be less inclined to do the same for a personal reason. But strategic borrowing can be a smart, cost-effective way to help you take advantage of opportunities and meet your financial goals, says Donna Brenner, national structured credit executive at Bank of America Private Bank. “If you look at your personal balance sheet much the way a business does, you’ll want to look for strategic ways to use your assets efficiently to increase cash flow and grow your overall wealth — and thoughtful borrowing might be part of that,” she says.
For instance, when one client, a real estate investor, heard about an underutilized warehouse near major highways and rail lines — with a motivated seller and a valuation she deemed low — she wanted to act fast. Her investment portfolio of stocks provided enough market value that she could sell securities to generate the requisite cash to buy the property outright. But doing so could potentially trigger a sizable capital gains tax obligation, while at the same time depriving her of the benefits of future growth of those assets. Another option, getting approved for a bank loan using the warehouse as collateral, could take a while — increasing the odds that someone else would scoop up the property before she could.
“When she discussed the opportunity with us, we went over several options, including ideas she hadn’t considered,” notes Brenner. Ultimately, the client decided to borrow against her investments, gaining quick access to cash without having to sell any of her stocks or incur capital gains taxes. “The math simply made sense,” Brenner says. “When we looked at the numbers together, it was clear that borrowing against her portfolio enabled her to not only act quickly but also be looking at a potential return on capital that far exceeded what she might expect if she’d sold securities to fund the purchase.”
Opportunities as diverse as your holdings
For that client, it made sense to borrow against her portfolio of stock investments. But for other types of specific financial objectives, it might make sense to borrow against different kinds of assets. Here are three examples:
Hedge funds. Investors often use existing investments as collateral to pursue additional financial investments, diversifying and compounding their portfolio’s growth potential. While collateral may involve marketable securities, “an investor interested in, say, a private equity opportunity might choose to finance this or other opportunistic investments against a limited partnership interest in a hedge fund,” Brenner says.
Artwork. An individual with a valuable art collection may want to make a sizable donation to a charity. Though their collection is extensive, they’re not interested in donating pieces or selling them. A lender with expertise in a specialized market like art can assess a collection and help structure a loan to meet a potential borrower’s needs, Brenner says. The money from the loan would allow the charitable organization to receive a generous gift while the individual continues to enjoy possession of the art (and its potential appreciation) for years to come. Bank of America Private Bank Art Services, for example, can craft a wide range of customized solutions for clients’ specific needs.
Real estate. While investors may borrow against investment assets to purchase real estate, the property and buildings they already own may be used as an asset to pursue additional investment opportunities, Brenner notes. Rather than selling the property to raise capital, a loan could enable them to lock in a long-term fixed interest rate, pursue additional growth opportunities and hold on to the property. “Commercial real estate can be an excellent addition to your overall financial asset allocation and strategy to grow wealth, and there are structures which let clients lock in competitive interest rates in a rising rate environment,” says Brenner.
Yachts. Yachts, like planes, are valuable assets that can be part of a customized lending plan. The most common reason for using a yacht as collateral may be to purchase, build or refinance the vessel itself. Of course, a custom yacht build or purchase is highly complex and requires expert craftsmen and bankers. “Our yacht lending team works with your advisor to help structure the best way to finance your vessel,” says Brenner.
Meeting short-term needs
In some cases, individuals may want to use borrowing for short-term needs such as paying taxes. “Someone with a complex portfolio of investments may or may not fully know what their tax liability will be when the April tax season arrives,” Brenner says. For these individuals, a line of credit backed by marketable investment assets or other securities could offer the flexibility to make a payment by April 15 without selling their liquid portfolio or other holdings, she adds.
Weighing the costs and benefits
Borrowing against assets to achieve financial goals isn’t always the best solution for meeting your liquidity needs. “Everybody has a different tolerance for risk,” Brenner says. In addition to the fundamental risk of losing the asset in case of default, an unexpected decline in value of an artwork or other asset could mean your borrowing costs could exceed the asset’s value. “In the case of marketable securities, there’s always the risk of market volatility,” she adds. “You don’t want to over-leverage those assets because you could find yourself in a margin call situation,” requiring you to deposit additional cash to cover the shortfall.
That’s even more reason to strategically consider how borrowing fits with your overall financial situation and objectives. But the key is to work with specialists who are experienced in assessing the value, growth potential and risks of borrowing against highly specialized assets. You, your advisor, attorney and/or accountant can work together to determine an approach tailored to your needs and assets.
Bank of America, its affiliates, and advisors do not provide legal, tax, or accounting advice. You should consult your legal and/or tax advisors before making any financial decisions.
An investment in a hedge fund involves a substantially more complicated set of risk factors than traditional investments in stocks or bonds, including the risks of using derivatives, leverage and short sales, which can magnify potential losses or gains. Restrictions exist on the ability to redeem units in a hedge fund. Hedge funds are speculative and involve a high degree of risk.
Nonfinancial assets, such as closely-held businesses, real estate, fine art, oil, gas and mineral properties, and timber, farm and ranch land, are complex in nature and involve risks including total loss of value. Special risk considerations include natural events (for example, earthquakes or fires), complex tax considerations, and lack of liquidity. Nonfinancial assets are not in the best interest of all investors. Always consult with your independent attorney, tax advisor, investment manager, and insurance agent for final recommendations and before changing or implementing any financial, tax, or estate planning strategy.
Credit facilities are provided by Bank of America, N.A., Member FDIC, its subsidiaries or other bank subsidiaries of Bank of America Corporation, each an Equal Opportunity Lender. All loans and collateral are subject to credit approval and may require the filing of financing statements or other lien notices in public records. Asset-based financing involves special risks and is not for everyone. When considering an asset-based loan, consideration should be given to individual requirements, asset portfolio composition, and risk tolerance, as well as capital gains, portfolio performance expectations and investment time horizon. A complete description of the loan terms will be found in the individual credit facility documentation and agreements. Clients should consult with their own independent tax and legal advisors.