Margin Lending and Gearing

Margin Lending is a facility that allows investors borrow cash to increase their exposure to the share/managed funds and/or property market by borrowing against their existing eligible assets. It is a great way to take advantage of other investment opportunities as they arise.

Who would take out a margin lending facility and why? 

  • People who are looking to gain or increase their exposure in the share market.
  • High income earners looking for a possible tax deduction.
  • Those people who are looking for a long term investment.
  • Asset rich clients (eg: unencumbered family home) to free up capital.
  • Growth or high growth investors as they have a higher risk tolerance

Who/what investment structure can take out a margin lending facility? 

  • Individuals
  • Companies
  • Trusts

What security is required for a margin lending facility? 

  • Cash, which is held in a Cash Management Trust account until required or
  • Shares which are on the appropriate lenders' eligible securities list or
  • Managed Funds which are on the relevant lender's eligible securities list or
  • Residential property (this is only for the Leveraged Equities facility called 'Powerhouse').

What is a margin call?

A margin call occurs when your total loan exceeds the maximum drawable value (plus the allowable buffer) as agreed to by the client and the provider.

A margin call is not a penalty, it is a requirement to reduce your level of gearing by either adding additional funds or repaying part of the loan portfolio to restore the facility back to the Maximum Drawable Value.

How and when do I meet a margin call?

The client is informed the day they fall into a margin call and they have until the following business day (usually 2pm) to restore the situation. Some providers allow a longer period (Colonial allow a week for managed funds), please check with the relevant provider. Clients may provide any of the following to restore their position:

  1. Additional security in the form of shares and/or managed funds (provided the lending organisation is willing to gear against the security);
  2. Additional Cash 
  3. Sell sufficient securities to cover the position

Although the client has the option to sell securities held on their facility to cover the call position, this would be the last option recommended and should always be seen as a last resort to both the client and adviser. The reason behind this is that the client would be selling at the lower end of the market and potentially losing money! Ideally, the client should never be in a position where they could not meet a margin call unless they sell shares.

It is important to remember that you should always buy when the market is down and sell when the market is high.

What are the tax benefits of a margin lending facility?

The interest paid on the facility over any financial year may be claimed as a tax deduction. Also, clients can often pre-pay all or part of a margin loan at a time that best suits the client's tax situation. Prior to entering into an agreement, all clients should talk to a financial adviser.

Investment Gearing

Gearing simply means borrowing money to invest.

There are several avenues available for borrowing to invest including: 

  • Margin loans: Loans against existing shares, managed funds or cash;
  • Home equity loans: Loans against your existing property; and
  • Protected loans: Borrow the full amount to purchase investments, while protecting them in falling markets.

Investment Benefits of Gearing

Gearing increases the size of your investment and can magnify returns. However, it is important to remember that gearing has the potential to magnify losses, so careful planning is required and appropriate timeframes are important. You can reduce risk by spreading more money across more investments.

Tax Benefits of Gearing

Interest on loans used for investment purposes are normally tax deductible, reducing the tax you pay on your income. This interest can also be paid in advance - so you may be able to claim up to 12 months' interest as a tax deduction this financial year.

You can pre-pay all or just part of your interest cost, allowing control over the size of the tax deduction you receive. If you purchase Australian shares, you may be eligible to receive 'franking' credits for tax already paid by the company. These credits can be used to further reduce your tax bill.

Gearing as a wealth creation strategy is not appropriate for everyone. When considering gearing you need to fully understand both the benefits and pitfall, talk to us today to find out if gearing is suitable for accelerating your wealth creation.

Types of Gearing

The amount that is borrowed will ultimately determine whether a gearing strategy is described as being positively, neutrally or negatively geared. The examples below give a good indication of each type of gearing:

Gearing Examples

Positively Geared

  • The investment produces more regular income than the interest cost on the borrowed amount. 
  • $100,000 investment, yield (income) @ say 4% = $4,000 $30,000 borrowed @ 8% = $2,400 interest

Neutrally Geared

  • The investment produces income approximately equal to the interest cost on the borrowed amount.
  • $100,000 investment, yield (income) @ 4% = $4,000 $50,000 borrowed @ 8% = $4,000 interest

Negatively Geared

  • The investment produces less regular income than the interest on the borrowed amount.
  • $100,000 investment, yield (income) @4% = $4,000 $80,000 borrowed @ 8% = $6,400 interest


Ridell Pty Ltd (ACN: 062 778 670) ATF DHR Trust & T&V Pty Ltd (ACN: 603 440 768) ATF OP Trust (ABN: 88 355 151 729) T/A Ridgway Financial Services is an Authorised Representative of Count. 'Count' and Count Wealth Accountants® are trading names of Count Financial Limited ABN 19 001 974 625 Australian Financial Services Licence Holder Number 227232 a wholly-owned, non-guaranteed subsidiary of Commonwealth Bank of Australia ABN 48 123 123 124. Count is a Professional Partner of the Financial Planning Association of Australia Limited. Count advisers are authorised representatives of Count. www.count.com.au



Please note that any taxation and accounting services are not endorsed nor the responsibility of Count Financial Limited.


General advice warning:  
The advice provided is general advice only as, in preparing it we did not take into account your investment objectives, financial situation or particular needs. Before making an investment decision on the basis of this advice, you should consider how appropriate the advice is to your particular investment needs, and objectives. You should also consider the relevant Product Disclosure Statement before making any decision relating to a financial product.

 

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