Margin lending means borrowing to invest. Margin lending is a popular wealth creation strategy for many investors. It enables the investor to borrow a percentage of their total investment amount secured against cash or their existing investments in shares or other investments.

Using a margin loan as part of your trading strategy allows you to more investment capital and maximises your opportunity for growth and returns. By providing access to additional capital, margin lending can also help you achieve greater diversification by enabling a wider range of investment choices. As an alternative to geared property investment, margin lending can offer convenience, liquidity and minimal administrative overheads.

Margin Lending suits investors who:

• Want to build an investment portfolio and be able to increase the amount they can invest

• Are looking for medium to long-term investment opportunities

• Are willing to bear greater risk for the chance of greater return

• Have adequate cash reserves or other security to meet margin calls

• Have some understanding of the stock market and its operations

• Understand that gearing multiplies losses as well as gains

• Want to take advantage of potential tax concessions

• Want to increase their potential to diversify

We have briefly listed below the benefits and risks with regards to margin lending, but it is strongly recommended that you seek professional financial advice from a certified financial planner before borrowing to invest, to ensure that you understand the tax implications, as well as the legal and financial ramifications of margin lending.

Some of the benefits of margin lending include:

• it can be a simple and flexible 'gearing' option

• gearing your investment increases your potential gains

• you have the freedom to sell a portion of the investment portfolio at any time, provided you maintain adequate security to cover the amount owing under the portfolio

• increased investment opportunities to invest in a wider range of asset classes

• possible to get tax deductions for loan interest paid

• interest can be pre-paid up to 12 months in advance to maximise your tax deductions in the current financial year

• borrowing against your existing investment portfolio can give you access to cash without incurring capital gains tax liability, which would arise from the sale of your investment

• Australian shares are often franked, so you may receive franking credits which could help reduce your overall amount of tax payable

• Taking advantage of company, trust and third party security structures may assist in tax planning

Risks involved with margin lending include:

• While borrowing to invest can accelerate your investment returns, it also increases your exposure to investments that can also decrease in value

• Margin lending magnifies the potential for both gains and losses

• Existing investment portfolio to be included in the security must consist of a certain type of stock, which is typically stable and established

• You will need an existing investment portfolio or cash to secure the loan

• If the market declines, so will the value of your investment portfolio. If this happens, you will need to ensure the amount owing does not exceed the security value of your portfolio. If the Loan to Valuation Ratio (LVR) on your margin loan exceeds that permitted by the mortgage lender, a margin call will occur. You will then need to inject more cash to lower the borrowed amount, buy more shares to raise the portfolio's value or sell some of the existing portfolio to raise cash to lower the loan amount

• Interest costs on the funds you borrow can exceed the gains you receive from your investment. Therefore, you cannot rely solely on dividends or distributions to fund your interest costs

Margin calls

Your mortgage lender may be under no legal obligation to contact you when a margin call happens. The responsibility falls on you to know that you must increase the assets securing, and to do so by the time set out in your margin loan agreement.

In order to meet a margin call you will have to:

• find extra cash to pay the mortgage lender or

• sell part of your underlying portfolio to raise cash or

• give the lender additional security.

You will have to respond quickly, often within 24 hours or sooner, if your mortgage lender makes a margin call. This means that you must keep a daily watch on your margin loan account and you must have cash or additional security readily available. If the market value of your portfolio falls substantially over a period of time, then you should be prepared to meet more than one margin call.

There are ways to reduce the risk of a margin call occurring, including the following:

• Not borrowing to the full extent allowed for any approved stock that you have in your portfolio. By reducing your gearing by as little as 10%, you can add protective measure to your investment portfolio

• Diversify across different industry sectors and stocks, for example, industrial, banks, telecommunication and possibly resources. A diversified portfolio enhances the ability to balance exposure over various sectors

• Stick to your original strategy and evaluate your portfolio regularly

• Make regular interest payments to help keep your portfolio and gearing level in balance

• Monitor your investment portfolio on a regular basis

• If possible, credit dividends and distributions to your investment portfolio

There are many benefits and risks involved with margin lending and it is strongly recommended that you seek professional financial advice first. Your financial planner will run through with you the tax implications, as well as the legal and financial ramifications of margin lending. Call 1300 55 10 45 and speak to an Intellichoice financial planner today to find out more about margin lending and whether this is the best option for you