In this guide, we will cover some of the major differences between a Securities-Based Line of Credit and a Home Equity Line of Credit. We have included a lot of examples and resources to help along the way.
We will look at what these lines of credit are, and how the funds can be used, we will discuss the differences in interest rates, loan expenses, duration, and risks.
Let’s get started!
- Securities-Based Line of Credit
- Home Equity Line of Credit
- Loan Uses
- Interest Rates
- Finding the Best Rates:
- Closing Costs
- Other Fees
- Size of Line of Credit
- Credit Requirements / Qualification Requirements
- Accessing Funds
- Payback Terms
- Default vs. Collateral Call
- Risks
- Clear Creek Conclusion:
- Additional Resources:
Securities-Based Line of Credit
A securities-based line of credit (SBLOC), also known as a portfolio loan allows an entrepreneur, investor, or individual to use securities, such as stocks, bonds, and ETFs as collateral for a line of credit. Loans are generally interest only, with no mandatory repayment schedule. Once the line of credit is established, as long as all the terms are met, it will stay open.
Retirement funds, such as an IRA, Solo 401(k), etc. cannot be used as collateral per the IRS. Collateral must be held in a non-qualified account such as an individual account, trust, or corporate account.
The amount you can take out on an SBLOC is largely dependent upon the type of securities within the account or accounts. If you have high-quality stocks and bonds within the account, you could potentially withdraw 60-70% of the account value.
The most common uses of an SBLOC are:
- Expanding a business
- Real estate investing (commercial & residential)
- Home Renovations
- Startup Funding
- Tax Obligations
- Funding an emergency
- Debt refinancing / Consolidation
- Luxury purchases
- Investment fund capital call
- Diversify family investments
- Cash management
The only restriction of SBLOC funds is that they cannot be used to buy additional securities or payoff a margin balance.
Here are a few examples of how an SBLOC can be used.
Example #1
A family is trying to move closer to their growing business to allow for a better work / family balance by cutting out the commute. Their realtor presents them with the perfect pocket listing 5 minutes away from their office building in Novato. Like most entrepreneurs, the net worth, while high, was liquid. Instead of liquidating their investments, they leverage an SBLOC to quickly close the deal and repay the SBLOC when they sell their current home. The SBLOC allows them to keep their current investment strategy and avoid a taxable event.
Example #2
A San Francisco area entrepreneur is presented with an opportunity to buy a competitor’s business in a fire sale. The entrepreneur needs to come up with $1.5M and doesn’t have the time to go through traditional financing channels. The entrepreneur leverages an SBLOC on a family trust to access the funds. A few months later, the entrepreneur secures a traditional business loan and repays the SBLOC.
Home Equity Line of Credit
A HELOC is a home equity line of credit that uses the equity built into a piece of real estate as collateral. Typically, an individual will take out a HELOC on their primary residence.
HELOCs are divided into two periods, the draw period and the repayment period. During the draw period, the borrower can pull money from the line of credit, interest is typically variable and during the repayment period interest is generally fixed with a mandatory repayment schedule. During the repayment period, you are not allowed to draw money from the HELOC. You can typically only draw funds from a HELOC for 5-10 years after it is opened.
The amount a lender will give you access to, through a HELOC, is based on the current market value of the real estate being used as collateral, the outstanding balance on the mortgage, your credit score, and the loan-to-value level the lender will offer. Most lenders will not loan above $1,000,000 through a HELOC. Also, many lenders will lend different amounts based on your geographic location.
The most common uses of a HELOC are:
- Expanding a business
- Real estate investing (commercial & residential)
- Home Renovations
- Startup Funding
- Funding an emergency
- Debt refinancing / Consolidation
- Investment fund capital call
- Diversify family investments
- Cash management
Here are a few examples of how a HELOC can be used.
Example #1
An entrepreneur has a full-time job working with a company in Petaluma but has a side hustle. He is beginning to see success in the side hustle and wants to invest more resources into it. He takes out a HELOC on his primary residence and pulls $60,000 to invest in his growing business.
Example #2
An entrepreneur is growing her business and her family. During COVID she realized she didn’t need to spend $3,000/month in renting an office, instead, she decided to take advantage of high home prices in Novato, where she and her family live to open a HELOC. She used $60,000 to build an office in the backyard and make some home improvements. She then paid back the loan over the next 23 months using the funds previously spent on rent.
Let’s dive into some of the major differences between an SBLOC and a HELOC.
Loan Uses
SBLOCs and HELOCs are very similar in how people can use the funds.
In general, they can be used for just about any legal purpose:
- Expanding a business
- Real estate investing (commercial & residential)
- Home Renovations
- Startup Funding
- Tax Obligations
- Funding an emergency
- Debt refinancing / Consolidation
- Luxury purchases
- Investment fund capital call
- Diversify family investments
- Cash management
The only restrictions are for SBLOC funds, which can’t be used to purchase other securities or pay off a margin loan.
Interest Rates
SBLOC
Interest rates for an SBLOC can be variable or fixed.
SBLOCs typically have a variable portion and a fixed portion, the fixed portion is known as the spread rate.
The variable portion is typically the Federal Funds Rate or a version of the Secured Overnight Financing Rate (SOFR).
The spread rate varies between lenders but the larger the approved line of credit is, the lower the spread rate will be.
As of the writing of this blog, TD Ameritrade has a spread rate of 4.1% on lines of credit between $150,000 and $249,999 and a spread rate of 1.6% on lines of credit of $3,000,000 and above.
Example
Let’s say an entrepreneur in San Rafael, California, has a family trust account valued at $5,000,000 and TD Ameritrade approves a $2,500,000 line of credit, their base interest rate would be the SOFR plus TD Ameritrade’s spread of 2.5%. If the SOFR were 2% the total rate would be 2.5% + 2% = 4.50% but would fluctuate with changes in the SOFR rate.
HELOC
Interest rates for a HELOC can be variable or fixed.
In fact, most HELOCs have a variable rate of interest during the draw period and a fixed rate during the repayment period.
HELOCs interest rates are made up of two parts, the variable portion and the fixed portion also called the margin rate.
The variable portion is almost always the WSJ Prime Rate. WSJ stands for The Wall Street Journal and is the base rate posted by at least 70% of the nation’s largest banks. This rate will move up or down as there are changes in the Federal Funds Rate.
The margin rate is based on a number of factors, such as the borrower’s credit score, the equity in the real estate used as collateral, their income, and the bank’s general appetite for these types of loans.
When looking into HELOCs make sure you read the fine print. Many banks will advertise very low introductory rates, these typically are for borrowers who keep a very low CLTV, sub 45% with credit scores of 800, who choose to pay large origination fees (4%+), and with a minimum initial draw.
Example
An entrepreneur is diversifying their investments and was presented with an opportunity to buy a rental property in Novato, California. They use a HELOC to raise $60,000 to go towards the down payment. Let’s assume the WSJ Prime Rate is 5% and the bank’s margin rate is 2%. The total variable interest rate will be 5% + 2% = 7%.
The fixed interest rate during the repayment period is determined in a similar fashion.
Finding the Best Rates:
SBLOC
Finding the best rate for an SBLOC requires a willingness to shop around. This can be done through an independent financial advisor, like Clear Creek Financial, or you can reach out to financial institutions on your own.
If you are working with a broker-dealer, such as Edward Jones, you may want to consider talking with a few other financial advisors before making a decision. Often, a broker-dealer is confined in what options they can present to clients. This doesn’t mean that the offer a broker-dealer has isn’t right, it could be perfect for you, however, I do encourage you to look at alternative lenders.
This will most likely require you to move investments from one custodian to another, however, the savings and flexibility the SBLOC offering provides could be well worth the move.
Remember that the rate is only one of the things you should be considering. Other things to consider are advance rations, the lender’s policies around maintenance calls, their track record in changing lending requirements, and how often they have had to suspend a line of credit.
HELOC
Finding the best rate for a HELOC will require some due diligence and hard work.
Don’t simply look for the lowest advertised interest rates on a bank website. These are often based on a perfect credit score, low debt-to-income ratios, and other factors. It is also critical to understand all the fees associated with the line of credit. These can quickly add up and in some cases, a bank could offer a lower interest rate but have higher fees.
Finding the best rate could also mean that you might have to change a few things like lowering your overall debt, improving your credit score by a few points, or waiting for that promotion you’ve been expecting at work.
Closing Costs
SBLOC
SBLOCs typically do not have any closing costs associated with them. This can make these lines of credit more cost-effective than others.
HELOC
HELOCS do have closing costs.
The average closing costs for a HELOC can be 2% to 5% of the total loan amount or line of credit.
Common Closing Costs are:
- Application fees
- Processing and underwriting fees
- Appraisal fees
- Title and escrow fees
- County recording fees
Many lenders advertise “no-closing cost” HELOCs, however, be sure to ask about the terms related to this. Some lenders will require the borrower to have a large initial draw requirement and if the line of credit is paid off within a certain amount of time, say 36 months, the borrower will have to pay for all the closing costs.
Other Fees
SBLOC
Most SBLOCs do not have any fees related to them.
The one exception is if the borrower decides to convert a SBLOC from a variable rate to a fixed rate. Some lenders will charge a flat fee for this conversion.
Ask your financial planner / advisor or the lender about all fees related to SBLOCs because each lender is different.
There could be fees associated with the investment account that holds the assets being pledged for the SBLOC, however, they are not related to the SBLOC. The account owner would have to pay these fees whether they had an SBLOC or not.
HELOC
Most HELOCs do have specific fees associated with them.
HELOC-Specific Fees are:
- Annual account maintenance fees
- Transaction fees
- Early payoff or early termination fees (% of total loan)
- Minimum balance fees (fees associated with not using the money)
When asking for a HELOC quote, be sure to ask the lender for the total cost of borrowing, including all the potential fees that could be charged. Ideally, they will give you a line-by-line accounting of the fees.
Size of Line of Credit
SBLOC
The size of the approved line of credit is based on the liquidity and safety of the securities being pledged.
All lenders will have what is called an Advance Ratio. This ratio is the percentage of an asset that can be loaned out.
For example, a lender might lend 65% of blue-chip stocks, 50% of a diversified mutual fund, and 95% of U.S. Treasuries.
Let’s look at an example:
Portfolio Values | Advance Rates | Advance Amount | |
Blue Chip Stocks | $2,000,000 | 65.00% | $1,300,000 |
Diversified Mutual Funds | $2,000,000 | 50.00% | $1,000,000 |
U.S. Treasuries | $1,000,000 | 95.00% | $950,000 |
Total Account Value | $5,000,000 | $3,250,000 |
A family has $5,000,000 in a taxable account. $2,000,000 in blue chip stocks, $2,000,000 in diversified mutual funds, and $1,000,000 in U.S. Treasuries. If you take these amounts and multiply them with their corresponding advance rates, the family could potentially borrow up to $3,250,000.
Most lenders have a cap on what they will lend, generally around 50% of the portfolio value. You never want to max out an SBLOC because this will significantly increase the risk of a collateral call.
Each lender will also have its own advance rates and this is an important reason to talk with an expert on SBLOCs. Depending upon your investment strategy and the securities you hold, you may find that one lender has a higher advance ratio on your specific portfolio than another.
Lenders will also set line of credit minimums. For example, an individual might be required to have an approved line of credit for at least $50,000.
There could also be line of credit caps. These caps typically don’t happen until the requested line of credit is between $10,000,000 and $20,000,000.
HELOC
The maximum amount for a HELOC is dependent upon the home value, the home’s location, the local real estate market, the amount of equity in it, current debts, credit score, credit-utilization ratio, and the specific bank’s policies around HELOCs.
Some states have laws in place that limit the loan-to-value (LTV) ratio.
Let’s take a look at a really simple example of how to calculate a potential HELOC loan amount.
HELOC Max Calculation | |
Home’s Appraised Value | $3,500,000 |
Lender’s HELOC LTV Ratio | 70% |
LTV Amount | $2,450,000 |
Current Mortgage Value | $2,000,000 |
Equity (LTV – Debt) | $450,000 |
Potential Max HELOC Amount | $450,000 |
Let’s say your home appraises for $3,500,000 and the lender has an LTV ratio of 70%. Multiply $3,500,000 * 70% to get an LTV amount of $2,450,000. If the outstanding mortgage was $2,000,000, you would subtract $2,000,000 from the LTV amount of $2,450,000 and you would get a potential max HELOC loan amount of $450,000.
Of course, this is ignoring all the other factors we mentioned above that will impact your ability to borrow.
Credit Requirements / Qualification Requirements
SBLOC
Credit requirements for SBLOC lenders vary greatly depending on the size of the line of credit and the lender. Some lenders do not require credit checks at all; while other lenders require soft credit checks. Other lenders will require credit checks for lines of credit over $2M and still others will require a hard credit check for any amount.
Federal laws require lending institutions of a certain size to pull credit on each lender. Some lenders might simply pull your credit to satisfy the law but do not require you to have a certain credit score. Some SBLOC lenders are not even required to report the line of credit to credit bureaus.
Ensure that you reach out to a number of lenders because each will function differently when it comes to credit requirements. It is best if you can find one that fits your specific needs.
HELOC
Your credit score is a big variable in the process of getting a HELOC loan. These credit requirements vary depending upon the lender but your credit score could impact if you qualify, the maximum amount of the loan, and the interest rate you pay.
You could be required to have a credit score between 660 and 700.
Remember that if your credit is a little lower, being better positioned in other areas of the underwriting process can help.
Accessing Funds
SBLOC
Accessing the funds from an SBLOC is very simple. Depending upon the lender, an individual can wire transfer, ACH out, or even write checks that draw against the line of credit.
The line of credit can be accessed as long as the account has enough collateral. There are no specific time periods or deadlines by which funds have to be withdrawn.
As we mentioned above, SBLOCs are generally interest only and the principal can be repaid at any time without penalty.
HELOC
Accessing HELOC funds can also be very simple. HELOC funds can be accessed using a check, ACH out, wire transfer, from the bank branch office, and even through a debit card.
HELOCs have what is called a draw period and during this period the borrower can make interest-only payments on the amount drawn.
A draw period is a period in which the line of credit can be accessed. Draw periods typically range from 5-20 years depending on the lender. More common draw periods are between 5-10 years.
Once the draw period is closed, you can no longer access those funds.
Payback Terms
SBLOC
Most SBLOCs do not have payback terms. As long as interest payments are being made and the collateral account has sufficient collateral, a balance can be held for as long as needed.
Having no payback requirement can be beneficial in that it allows an individual to be strategic about how they pay back the line of credit.
For example, if an investor wants to jump on a unique real estate opportunity but wants to fund this unique deal through a 1031 and needs some bridge financing to secure the opportunity. The investor could use an SBLOC as bridge financing to secure the replacement property and leverage a reverse 1031 to repay the SBLOC.
The downside to the no repayment requirement is that if an individual isn’t careful and continually monitoring the accumulating cost of interest, an SBLOC can end up costing much more than initially estimated.
HELOC
When the draw period of a HELOC is closed, the repayment period begins.
Repayment periods can range between 10-20 years depending on the lender. There are some lenders who do not have repayment periods, simply a balloon payment that is due at the end of the draw period.
During the repayment period, principal and interest are paid back and these payments are generally broken down into monthly payments with a fixed interest rate.
Default vs. Collateral Call
It is important to note that every situation will be different. Both SBLOCs and HELOCs have risks associated with them. It is critical to explore your situation and options with an expert.
If funds are used to invest in a risky business venture and the borrower defaults without a backup plan, they will lose the collateral.
With an SBLOC, you risk losing not only the assets in the pledge account but also potentially more.
With a HELOC, you risk losing your primary residence or the piece of real estate that was used as collateral.
Let’s take a closer look at a few of the risks associated with each of these types of loans.
Risks
SBLOC
SBLOCs carry some unique risks that are important to understand.
We will discuss these risks but we encourage you to read our blog on the different risks related to an SBLOC and strategies to manage them. These lists are in no way exhaustive. It is important to discuss the potential risks with an expert.
Risks of an SBLOC:
Loss of Deposit Risk
If the value of your pledged account declines to less than the SBLOC balance, you could be responsible for any shortfall and associated interest.
Interest Rate Risk
SBLOCs are generally tied to a variable interest rate. If interest rates rise quickly, the interest expense could rise sharply. For example, between March 2022 to July 2022, the Fed raised interest rates by 2.25% raising variable interest rates.
Market Risk
Market risk is the possibility that the account will experience losses related to factors that impact the overall performance of financial markets. This is important because if the value of the pledge assets falls relative to the outstanding line of credit, a collateral call could be issued.
Time Horizon Risk
Time horizon risk is the risk associated with how long there is an outstanding balance on the SBLOC. The longer the outstanding balance is carried, the more the loan will cost and the more unknowns you could face in the market.
Rate of Return Risk
There are no guarantees that the pledge securities will earn a return higher than the borrowing cost of the securities-backed line of credit. If the cost of the loan is greater than your returns, this is known as a “negative cost of carry”.
Asset Reallocation Risk
If the borrower is actively trading in the pledge account (many institutions allow this), they could reallocate their account in a way that dramatically impacts the overall advance rate of the pledge account and could cause a collateral call.
For example, let’s say an entrepreneur has a $1,000,000 pledge account with an overall advance rate of 50% with an outstanding line of credit of $250,000. If the pledge account was rebalanced such that the overall advance rate was lowered to 25%, a collateral call could be issued.
Collateral Release Risk
When a borrower has an SBLOC on an account or multiple accounts, typically the lender will limit the ability of the borrower to transfer assets out of the account.
This transfer of assets out of the account is known as a collateral release.
Lenders understand that a borrower might need to access the assets in a pledge account. Some lenders will release assets within 24 hours or even the same day.
The risk is that a borrower’s access to those assets is limited and if a borrower needs fast access to those assets, they may need to pay down their loan or even pay it off before the lender will release funds.
Lender Risk
Lenders can decide to change the collateral maintenance requirements on an SBLOC at their discretion. This means that if a lender decided to lower an overall advance rate on an account, the borrower would need to pay down the outstanding balance or contribute more collateral.
Lenders can also sell securities or other pledge assets without notice. If a collateral call is issued and the borrower does not respond within the given time period, the lender can sell securities to bring the pledge account or accounts into good standing. Most lenders will attempt to notify you but often, they are not required to. These forced sales can lead to tax liabilities.
It is important to understand that while there are a number of risks to an SBLOC, there are a number of ways to manage these risks. While there will always be risks associated with investing and borrowing, having a clear, executable strategy to manage those risks is important.
HELOC
Home equity lines of credit also carry some unique risks.
With HELOCs, lenders will evaluate your ability to make payments over the life of the loan. They will look at many of the same factors that qualified you for the HELOC in the first place, such as current home equity, credit score, debt-to-income ratio, etc.
Interest Rate Risk
HELOCs are typically tied to a variable interest rate, such as the prime rate. If interest rates rise quickly, the interest expense could rise sharply. For example, from March 2022 to July 2022, the Fed raised interest rates by 2.25%. This could dramatically impact the size of the repayment cost.
Loss of Home Risk
If a borrower defaults on a HELOC, the bank has the right to foreclose on the home and the borrower could lose their home.
Market Risk
Negative equity happens when the home suffers a loss of appraisal value and your equity goes down relative to the outstanding debt.
This can lead to the lender reducing the HELOC borrowing limit or entirely freezing the HELOC.
Credit Score Risk
If something negative happens to your credit score and the lender is concerned about your ability to repay the line of credit, they can freeze or reduce the borrowing limit on the HELOC.
Things that might impact your credit score could be:
- Paying off a loan such as a car loan
- Closing a credit card
- Late payments
- Significantly increasing your credit utilization rate
- Applying for a new credit card
A borrower will want to be extra cautious about how these activities might negatively affect their HELOC.
Payment Burdon Risk
This is the risk that the principal and interest payment during the repayment period gets difficult for the borrower to pay. This can happen if interest rates rise sharply and if the borrower uses a large portion of the HELOC amount.
Income Risk
If for some reason your income is negatively impacted during the HELOC draw period, the lender can freeze or reduce the borrowing limit on the HELOC.
Marital Risk
Divorce can negatively impact your HELOC because it can potentially impact your ability to make payments.
Clear Creek Conclusion:
While each of these line of credit has real risk that needs to be evaluated and managed, using your securities or your home as collateral for a line of credit can have huge, negative consequences if there is a default.
SBLOCs and HELOCs also have distinctive advantages.
SBLOC Advantages:
- Quick approval process
- Simple underwriting process
- Some lenders do not require credit checks
- Most SBLOCs are interest only with no principal repayment requirements
- Can be cheaper than other options with no underwriting or closing fees
- Potentially defer a taxable event
HELOC Advantages:
- Quick approval process
- Can be cheaper than other forms of debt, especially unsecured debt
- No restrictions on how you use the money
- Interest can be tax-deductible
- Repayment terms are typically longer than other forms of debt
At the end of the day, I highly recommend that you talk with an expert to better understand your options. You can easily reach out to us for a detailed discussion about SBLOCs. We also have connections with HELOC lenders that you can talk with as well.
Finding the right liquidity strategy for you and your family starts with a conversation. An SBLOC or a HELOC may not be the correct solution. There are many different solutions such as an investment credit line, mortgage solution (residential or commercial), or business line of credit.
We are passionate about serving families and their businesses. We are excited to help!
Additional Resources:
SBLOC
Investor Alert: Securities-Backed Lines of Credit – Securities and Exchange Commission
Securities-Backed Lines of Credit – The Financial Industry Regulatory Authority (FINRA)
Is Securities-Based Lending a Good Idea? – Kiplinger
Securities-Based Lines of Credit: Using Stocks as Collateral Loans – Nerdwallet
Securities-Based Lending – Investopedia
Examples of SBLOC Rates
These are just 3 of the SBLOC lenders that Clear Creek partners with. Please reach out to explore more lenders and to be sure the lender fits your circumstances and needs.
Collateral Lending – TD Ameritrade
Pledged Asset Line – Charles Schwab Bank
LoanAdvance – Pershing / BNY Mellon
SBLOC Calculator
Clear Creek Financial Management would be happy to help you find a lender that will give you the best advance rates and interest rates on an SBLOC. To start the process we would simply need review copies of your latest investment account statements. Your statements allow us to work with different lenders to determine the best advance ratios and interest rates available to you. Email or call and we will join you on this journey.
Get Started by reaching out on our Contact Page.
HELOC
Home Equity Loans and Home Equity Lines of Credit – Federal Trade Commission Consumer Advice
What are the Risks of Taking Out a Home Equity Loan? – Investopedia
What is a home equity line of credit (HELOC)? – Bankrate
What is a Home Equity Line of Credit, or HELOC? – Nerdwallet
Examples of HELOC Rates
These are only examples of HELOC rates. Please reach out to a professional and be sure to find a lender who fits your circumstances and needs.
HELOC Rates – Bank of America
Home equity line of credit (HELOC) Rates – Bankrate
HELOC Payment Calculator
Home Equity Line of Credit Payment calculator – Bank of America
About the Author: Located North of San Francisco, Jason specializes in financial planning, investment management, and tax strategies for families across the west coast.