InvestLL Archives | Page 21 of 78

Nov

2023

What Is a Margin Loan? Definition & Examples

Margin Loans: Definition, Examples, Pros & Cons

By Samuel Becker | Growing Wealth, invest, Investing | Comments Off

Margin loans are a type of loan that an investor takes out from a brokerage to buy investments. An investor typically borrows from a brokerage if they don’t have the cash balance in their trading account to cover the cost of a trade or investment – so, they use credit from their brokerage to cover the costs.

While there are risks associated with using margin and margin loans, they can also increase an investor’s purchasing power and bolster potential returns.

What Is a Margin Loan?

A margin loan is a loan from your brokerage to pay for securities that you can’t cover with cash. Similar to any other loan, you must apply for the account and be approved before you can borrow funds; and your brokerage will charge interest on any funds you borrow.

Having a margin account by definition enables you to take out a margin loan (the two are synonymous in many ways). Having the flexibility to buy securities on margin gives many traders the ability to take positions they might not have been able to afford otherwise. In fact, margin loans are a cornerstone to putting together effective day trading strategies, for advanced investors.

💡 Quick Tip: How to manage potential risk factors in a self-directed investment account? Doing your research and employing strategies like dollar-cost averaging and diversification may help mitigate financial risk when trading stocks.

Understanding Margin Loans

Understanding margin trading can be tricky, but for the average investor, all you really need to know is that a margin loan is essentially a short-term financing solution. If you want to buy securities, but don’t have the cash in your account, your brokerage may allow you to buy those securities using credit. It’s similar to a line of credit, in that way.

So, that’s what margin debt is: The result of a margin loan, in which a trader borrows money to buy securities.

How Margin Loans Work

While we’ve mostly been discussing margin loans in terms of trading and investing, they could be used for any purpose. But almost always, a margin loan is used to buy securities.

As for the process of how they actually work: A margin loan is more or less like any other loan. To get one, you’ll need to apply and qualify for margin on your brokerage account (typically called a “margin account”).

Margin Accounts and How They Work

Like other forms of lending, margin loans have strict criteria. In addition, these accounts are governed by industry regulations as well as the policies of individual institutions, so be sure to understand how your desired margin account works. Each brokerage has different rules and eligibility requirements, and FINRA, for example, also requires you to deposit a minimum of $2,000 or 100% of the security’s purchase price, whichever is less. This is the “minimum margin.” Some firms may require you to deposit more than $2,000.

If you’re approved for a margin account, you’re able to trade using a margin loan — up to a certain amount. According to Regulation T of the Federal Reserve Board, you may borrow up to 50% of the purchase price of securities that can be purchased on margin.

This is known as the “initial margin.” Some firms require you to deposit more than 50 percent of the purchase price. (Also be aware that not all securities can be purchased on margin. Only those deemed “marginable” can be traded on margin.)

If you have $5,000 in your brokerage account, and you want to buy Stock X, which is valued at $50 per share, with a 50% margin you could buy 50% more than your cash balance: 200 shares instead of 100. But half of those (100 shares) would’ve been purchased on margin — so, you’d need to settle up your account at some point, if or when you decide to sell your shares (hopefully for a profit).

Increase your buying power with a margin loan from SoFi.

Borrow against your current investments at just 10%* and start margin trading.

*For full margin details, see terms.

How Margin Interest Works

The other important thing to remember about margin loans is that they are, like pretty much all loans, subject to interest charges. Your brokerage is going to charge you for the money you borrow.

Margin interest is a big topic unto itself, but the key takeaway is to know that you’ll be on the hook for paying your brokerage back for the money you borrow, plus interest charges.

You’re probably thinking: “Can I avoid paying margin interest?” The answer is that it depends on how fast you can pay your margin balance back. Most brokerages will charge interest by the day and add the charges to your account monthly. So, if you have cash or can sell securities and pay your balance off before interest accrues, it’s possible.

💡 Quick Tip: How do you decide if a certain trading platform or app is right for you? Ideally, the investment platform you choose offers the features that you need for your investment goals or strategy, e.g., an easy-to-use interface, data analysis, educational tools.

Margin Loan Pros and Cons

Marginal loans can be highly useful for traders and investors. But like almost any financial instrument, margin loans have their pros and cons.

The biggest upside of margin is that it can open up a new swath of investing choices for traders. That means increasing their buying power, and allowing them to buy securities that may have otherwise been too expensive. This can increase potential profitability, too.

Conversely, traders who aren’t careful can’t quickly find themselves in debt if one of their trades backfires.

There are also interest charges to consider, as discussed. And if things really go sideways, some traders may experience a “margin call,” which is when your brokerage sells your assets without warning to settle up or get your account balance back within its requirements.

Here’s a quick rundown:

Margin Loans: Pros & Cons

Pros	Cons
Increased trading capacity	Traders can accumulate debt
Traders can buy pricier securities	Interest charges
Increased potential gains	Potential margin calls

Typical Margin Loan Rates

Margin loan rates, or, the interest rate charged by a brokerage for using margin, vary. Brokerages make the information available to traders and investors, so finding what types of margin loan rates you’re subjected to usually just requires a little research (or a call to your broker).

As mentioned, a brokerage will probably charge different interest rates depending on your overall margin balance, and how much you’ve borrowed. Lower balances are typically charged higher interest rates.

Here are some hypothetical examples: Let’s say Brokerage ABC’s margin interest rates vary between 4% and 8%, depending on the trader’s balance. Traders using up to $24,999 in margin will be subject to the highest interest rate (8%), whereas traders with more than $1 million in margin debit are subject to the 4% rate.

Brokerage B, however, has a different scale, with traders in margin debt up to $24,999 subject to 8.5% interest, and those with balances between $500,000 and $999,999 subject to 6.5%.

So, while brokerages do vary in what they charge for margin loan rates, they tend to be similar. To know your exact rate, contact your brokerage, or look up the current rate schedule on the company’s website.

The Takeaway

Margin loans are similar to any other type of loan, but are typically used for the purpose of buying stocks or other securities. Once you’ve applied for and been approved for a margin account, which is akin to adding a line of credit to your existing brokerage account, you’ll have the flexibility to buy more investments than if you were relying only on cash.

That said, you’re on the hook for repaying the money you’ve borrowed, with interest. If you’ve made a profitable investment, this shouldn’t be a problem. But if you invest in Stock X on margin, say, and the price drops, you would still owe the full amount you’d borrowed to buy the stock, plus interest.

Ready to invest in your goals? It’s easy to get started when you open an investment account with SoFi Invest. You can invest in stocks, exchange-traded funds (ETFs), mutual funds, alternative funds, and more. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).

For a limited time, opening and funding an Active Invest account gives you the opportunity to get up to $1,000 in the stock of your choice.

FAQ

Can you withdraw a margin loan?

Yes, it’s possible to withdraw a margin loan, although the specifics will depend on an individual brokerage, as will any applicable interest charges.

Are margin loans a good idea?

Margin loans can be useful for many investors and traders, and whether or not they’re a good idea will depend on the specific individual considering taking one out. They do have risks, but upsides, too.

How do I pay back my margin loan?

The simplest ways to pay back margin loans are to either deposit cash into your brokerage account to get the balance back to zero, or to sell holdings that will result in a positive or neutral balance.

How much collateral is required for a margin loan?

The collateral required to take out a margin loan depends on a specific brokerage, but it’s not uncommon for brokerages to require somewhere between 30%, 40%, or 50%.

What happens if you can’t pay back a margin loan?

If you can’t pay back a margin loan, the brokerage will likely reach out to see what can be done, or lock you out of your account. Further, it could end up liquidating securities in your portfolio in order to cover the debt.

Photo credit: iStock/Sergey Nazarov

SOIN1023012

Oct

2023

How Are IPO Prices Set?

By Michael Flannelly | Growing Wealth, invest, Investing | Comments Off

Before listing a stock for sale on a public exchange, companies undergo a rigorous process of preparation and compliance — which includes a suggested starting price for the shares they plan to sell in their initial public offering (IPO).

This price then creates an IPO valuation for the company.

Companies and their bankers use a variety of factors and steps to determine the IPO price. Here’s a closer look at the IPO valuation process.

What Is IPO Price?

An IPO price is the price at which a company’s stock is sold to accredited and institutional investors right before the stock trades on a public exchange. The purpose of the public offering price is to attract investors to buy the shares.

IPO stocks are considered high-risk investments, and while some companies may present an opportunity for growth, there are no guarantees. Like investing in any other type of stock, it’s essential for investors to do their due diligence.

The investment banks that underwrite a company’s public offering set the IPO price, using several variables including an analysis of the company’s growth potential, a comparison to related firms, and a determination of market demand conditions.

💡 Quick Tip: Keen to invest in an initial public offering, or IPO? Be sure to check with your brokerage about what’s required. Typically IPO stock is available only to eligible investors.

[ipo_launch]

Initial Public Offerings 101

When privately owned companies, such as unicorn companies, begin to sell shares of stock to the public, they hold an initial public offering, or IPO. Before an IPO, companies are usually owned by the founders, employees, and early investors, such as venture capital firms and angel investors. The process of selling shares to investors is called going public. Typically the initial offering is limited, and there are a number of people eligible for those shares first.

For this reason, it can be difficult for individual investors to buy IPO stock when it’s first issued. In most cases, individuals can trade IPO shares on the secondary market through their brokerage. In some cases, a brokerage may set certain requirements in order for individual investors to buy shares.

An IPO can help a company raise significant capital. It can also be a source of publicity. However, the IPO process is also time-consuming and expensive. Once a company has gone public, it faces new challenges such as regulatory scrutiny and an increased need to please shareholders.

Recommended: What Is an IPO and How Does it Work?

Why Do Companies Go Public?

The main reason companies choose to go public is to raise money. Holding an IPO can create significant value for a company and its management. In some cases, IPOs raise millions and even billions of dollars for the company, but some companies also face losses after an IPO.

Bringing in public investment benefits the business, but it also benefits early investors. These initial investors, who have invested time and money in a company, can sell their shares following an IPO, unlocking shareholder value.

An IPO can also benefit employees of the company. That’s because when an individual joins a company, sometimes they are granted employee stock options. Companies will often give early employees the options over several months or years — a process called vesting. Usually, employees must wait to sell their vested stock until the end of a lock-up period — a period after an IPO during which employees have to wait before selling their shares.

Other reasons companies go public are to gain media attention, grow a broad base of financial supporters, and create a windfall for venture capital firms that helped fund the company in its early stages.

The number of publicly traded, exchange-listed companies in the U.S. has decreased from the peak in the mid-to-late 1990s when it reached about 8,000. In 2021, the figure was closer to 6,000 companies that traded on different stock exchanges, such as the New York Stock Exchange (NYSE) and Nasdaq.

Steps in IPO Valuation

When a company decides to hold an IPO, they work with an investment bank to determine the company’s IPO valuation. The process of investment bankers handling an IPO is called underwriting.

How Underwriting Works in IPOs

Each underwriting process can be slightly different, but investment bankers’ factors in determining IPO prices and valuations are essentially the same. Some questions include:

• Why has the company decided to go public?

• What is the current status of the market?

• Who are the company’s competitors?

• What are the company’s assets?

• How much has been invested in the company and by whom?

• What is the history of the company and its team?

• What are the company’s prospects for growth?

Recommended: What Is IPO Due Diligence?

Process of Determining IPO Prices

The rules of supply and demand apply to how the company and its underwriters will set an IPO price. Essentially, the underwriters must determine the demand for the shares based on the supply of shares that will be offered and sold to investors. These underwriters try to figure out what investors are willing to pay for each share of a company when it decides to go public.

To create a balance in this tradeoff that makes both existing and new investors happy, the company must decide how many new shares to issue and the estimated IPO price they plan to sell each share. The company’s executives and their investment bank determine the number of new shares by deciding how much money they hope to raise and how much ownership they are willing to give up.

Institutional Investors in IPO Process

Once executives and bankers decide on the number of new shares to issue, they reach out to institutional investors to start asking them how many shares they are interested in buying. Institutional investors include hedge funds, mutual funds, high net worth individuals, and pension funds in good standing with the investment bank.

Days before the IPO, the institutional investors place requests for how many shares they actually want to purchase. The company and its investment bankers then set the price for the IPO, and they know how much money they will raise.

The underwriting investment bank goes through the complex process of selling and allocating all the newly public shares to the institutional investors. They want to create a balance of different types of investors.

Retail Investors in IPO Process

Unfortunately for the at-home retail investor, it can be difficult to buy a stock at its IPO price. However, some brokerage platforms, like SoFi, have started to offer IPO Investing services that allow individuals to buy closer to the IPO price.

Determining Opening Price Point

Before the first day of trading, the stock exchanges on which the company decides to list look at all the incoming orders for the newly issued stock, which may be either buy or sell orders, and report the predominant price.

They then go through a process of price discovery to determine what the opening price will be. The goal is to have the maximum number of trades be executed from all the placed orders. At Nasdaq, this is done electronically, while human traders are involved at the NYSE.

Following this price discovery period, the opening price point is set, and the trading day continues. The stock is open for public trading.

💡 Quick Tip: The best stock trading app? That’s a personal preference, of course. Generally speaking, though, a great app is one with an intuitive interface and powerful features to help make trades quickly and easily.

Post-IPO Trading

In an ideal situation for the company and the underwriters, the stock’s closing price is relatively close to the opening price on opening day. This means the shares were priced accurately for what investors are willing to pay and the company had an appropriate valuation.

However, the IPO price isn’t necessarily a good indicator of the value of a stock. Broader market interest in the stock is impossible to plan for, and IPO conditions differ from the company’s long-term presence in the market.

IPO Price vs Opening Price: Similarities & Differences

Many analysts use the terms IPO price and opening price interchangeably when discussing a newly public company. However, there is a distinction between the two price points.

The IPO price is the price at which a company’s shares are first offered to institutional and accredited investors. The underwriters of the IPO sell the newly issued public share to these investors and clients at the initial public offering price.

In contrast, the opening price is the price at which the stock trades when it first begins trading on the stock market. The two prices are usually very close, but the opening price may be higher or lower than the IPO price.

Do IPO Stocks Always Rise?

IPO stocks don’t always rise in price once they are available for public trading. Many highly talked-about IPOs have disappointed in their opening weeks. This may be because investors feel these companies are overvalued and don’t want to risk putting money into them when they haven’t yet shown a profit.

It can take time for a stock to increase following an IPO, so the initial sale isn’t necessarily an indicator of long-term success or failure. The initial stock offering doesn’t always result in an immediate rise, but the influx of new capital can allow the company to grow.

Many stocks experienced tumultuous action for months before seeing a steadier climb. As an investor, looking for companies with a solid team and business plan, rather than just hype and a high valuation, can result in long-term portfolio growth.

How to Invest in IPOs

You can expose yourself to IPO stocks through an exchange-traded fund (ETF). Certain ETFs offer a weighted balance of newly public stocks and are adjusted over time. By diversifying your portfolio, you benefit from any gains while avoiding steep losses.

Also, some online brokerages, like SoFi, offer IPO investing for retail investors.

But, as mentioned above, IPOs can be very volatile. Although there is potential for significant returns, investors can also see severe losses in the weeks and months after a company goes public.

Rather than investing immediately, you can wait a quarter or six months to see how a company’s stock fluctuates following the IPO and then decide whether to invest. Stocks can often fall to form a base price before beginning to rise again.

The Takeaway

It’s exciting when a company opens up to public investment. Although the IPO price is set as part of the lengthy IPO process, once the stock goes public all bets are off. Now the market determines the stock price, and the valuation of the company itself.

That’s one reason it can be challenging for most investors to know when and how to add new IPO stocks to their portfolios. Ultimately, investing in newly public stocks can be risky; the decision should be based on financial goals, time horizon, and risk tolerance.

Whether you’re curious about exploring IPOs, or interested in traditional stocks and exchange-traded funds (ETFs), you can get started by opening an account on the SoFi Invest® brokerage platform. On SoFi Invest, eligible SoFi members have the opportunity to trade IPO shares, and there are no account minimums for those with an Active Investing account. As with any investment, it's wise to consider your overall portfolio goals in order to assess whether IPO investing is right for you, given the risks of volatility and loss.

Invest with as little as $5 with a SoFi Active Investing account.

FAQ

Is it good to buy at IPO price?

Like all investments, there is risk in buying a stock when it goes public. IPOs can be suitable investments if the stock price increases after the IPO, but there is also a risk that the stock price could decrease. When buying a stock at an IPO price, investors don’t have the benefit of history to help analyze the stock.

How is an IPO price determined?

The IPO price is the initial public offering price of a stock. The IPO price is the price the underwriters will sell stock to institutional and accredited investors. The investment bank that works with the company going public determines the IPO price.

Can you lose money on an IPO?

Yes. An investor can lose money on an IPO if the company’s stock price falls below the price at which the investor bought the shares.

SoFi Invest®
INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE
SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

Investing in an Initial Public Offering (IPO) involves substantial risk, including the risk of loss. Further, there are a variety of risk factors to consider when investing in an IPO, including but not limited to, unproven management, significant debt, and lack of operating history. For a comprehensive discussion of these risks please refer to SoFi Securities’ IPO Risk Disclosure Statement. IPOs offered through SoFi Securities are not a recommendation and investors should carefully read the offering prospectus to determine whether an offering is consistent with their investment objectives, risk tolerance, and financial situation.

New offerings generally have high demand and there are a limited number of shares available for distribution to participants. Many customers may not be allocated shares and share allocations may be significantly smaller than the shares requested in the customer’s initial offer (Indication of Interest). For SoFi’s allocation procedures please refer to IPO Allocation Procedures.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

SOIN0623083

Oct

2023

What is a Cash Account? Margin vs Cash Account

Cash Account vs Margin Account: Key Differences

By Laurel Tincher | Growing Wealth, invest, Investing | Comments Off

When opening a brokerage account to invest in securities, investors can choose between a margin account or a cash account. The main difference between the two accounts is that with a margin account an investor can borrow from their broker, whereas with a cash account, they can’t.

There are reasons for choosing either account, and it’s important for investors to understand them both in order to make the best decision for their own financial goals.

What Is a Cash Account?

A cash account is an investment account with a brokerage firm that requires investors to purchase securities using the cash balance in that account at the time of settlement. With a cash account, investors can’t borrow money from the broker, and they can’t take short positions on margin.

If they don’t have cash available they can also sell securities in their account to purchase different ones. Investors have two business days to pay for securities they buy with their cash account, according to the Federal Reserve’s Regulation T.

How Does a Cash Account Work?

Cash accounts allow both institutional and retail investors to buy securities using whatever amount of money they put into their account. For instance, if they deposit $3,000 into their account, they can purchase $3,000 worth of securities.

Pros and Cons of a Cash Account

The main advantage of a cash account is that investors can’t go into debt to their broker using one, as they might with a margin account. They have no borrowing ability, and thus, can only lose what they have deposited in cash. Using a cash account can provide a much simpler experience for beginner investors as well.

As for the downsides, a cash account does not allow investors to utilize leverage (as they would with a margin account) to potentially generate outsized gains. Investors are more or less tied to their cash balance, and may be limited in what they can do without using margin.

Cash Account Regulations to Be Aware Of

There are several regulations that investors should keep in mind when it comes to cash accounts, pertaining to having enough cash in their account to pay for securities.

Cash Liquidation Violations

Transactions can take a few days to settle, so investors should always sell securities before purchasing new ones if they are using that money for the purchase. If there is not enough cash in the account to pay for a purchase, this is called a “cash liquidation violation.”

Good Faith Violation

A Good Faith Violation occurs when an investor buys a security, buys another security, then sells it to cover the first purchase when they don’t have enough cash in their account to cover the purchase.

Free Riding Violation

In this type of violation, an investor doesn’t have cash in their account, and they attempt to purchase a security by selling the same security.

Benefit of a Cash Account: Lending

One benefit of cash accounts is that investors can choose to lend out money from their account to hedge funds, short sellers, and other types of investors. The account holder can earn interest or income from lending, known as securities lending or shares lending.

If a cash account holder wants to lend out cash or shares, they can let their broker know, and the broker will provide them with a quote on what borrowers will pay them. Securities that earn the highest interest rates are those in low supply and high demand for borrowers.

These tend to be securities with a lower trading volume or market capitalization. If an investor lends out shares of securities, they can earn interest while continuing to hold the security and earn on it as it increases in value. Account holders may need to meet minimum lending requirements.

💡 Quick Tip: How do you decide if a certain trading platform or app is right for you? Ideally, the investment platform you choose offers the features that you need for your investment goals or strategy, e.g., an easy-to-use interface, data analysis, educational tools.

What Is a Margin Account and How Does It Work?

Using a margin account, an investor can deposit money but they can also borrow money from their broker. This allows investors to use leverage to buy larger amounts of securities than a cash account allows, but if the value of securities goes down, the investor will owe the broker additional money and lose the initial amount of funds they deposited into the account.

Margin accounts also charge interest, so any securities purchased need to increase above the interest amount for the investor to start seeing profits. Different brokers charge different interest rates, so it’s a good idea for investors to compare before choosing an account.

Usually there is no deadline to repay a margin loan, but the debt accrues interest each month, so the longer an investor waits the more they owe. The securities held in the account act as collateral for the margin loan, so if needed they can be used to pay it off.

Recommended: What is Margin Trading?

Increase your buying power with a margin loan from SoFi.

Borrow against your current investments at just 10%* and start margin trading.

*For full margin details, see terms.

Other requirements generally associated with margin accounts include:

Minimum Margin

Investors must deposit a minimum amount of cash into their account before they can start investing and borrowing. Each broker may have a different minimum, but the Financial Industry Regulatory Authority (FINRA) requires investors to have either $2,000 or 100% of the purchase amount of any securities the investor wants to buy on margin, whichever amount is lower.

Initial Margin

Usually investors can only borrow up to 50% of the purchase amount of securities they want to buy. For example, if an investor with $3,000 in their account, can borrow $3,000, allowing them to purchase $6,000 worth of securities.

Maintenance Margin

Both before and after purchasing securities, investors must hold a certain amount in their account as collateral. The investor must own at least 25% of the assets (cash or securities) in their account when they have taken out a margin loan. If the amount in the account dips below this level, the investor may receive a margin call, requiring them to either deposit more cash into their account or sell some of their securities. This could occur if the investor withdraws too much from their account or if the value of their investments decreases. This is one of the main risks of margin accounts.

Margin Account vs Cash Account

There are some similarities between margin accounts and cash accounts, but there are some key differences in terms of the monetary requirements for investors to consider when choosing which type of brokerage account works best for them. The type of account you choose will have an impact on the amount of money you’re able to invest, and the risk level that accompanies it.

The accounts can be equated to a debit card vs. a credit card. A debit card requires the user to have funds available in their account to pay for anything they buy, while a credit card allows a user to spend and pay back the expense later.

Similarities Between Margin and Cash Accounts

Both are brokerage accounts that allow investors to purchase securities, bonds, funds, stocks, and other assets in addition to holding cash. (You typically can’t have a margin account in a retirement account such as an IRA or Roth IRA.)

Differences Between Margin and Cash Accounts

Margin accounts allow investors to borrow from their broker and typically require a minimum deposit to get started investing, while cash accounts don’t. However, margin accounts usually don’t come with additional fees.

On the other hand, cash account holders may only purchase securities with cash or settled funds, and cash accounts don’t allow short selling, or ‘shorting’ stocks.

Should You Choose a Margin Account or a Cash Account?

Although being able to borrow money with a margin account has benefits in terms of potential gains, it is also risky. For this reason, cash accounts may be a better choice for beginner investors.

Cash accounts may also be better for long-term investors, since investments in a margin account may go down and force the investor to have to sell some of them or deposit cash to maintain a high enough balance in their account. This could result in an investor being forced to sell a security at a loss and missing its potential price recovery.

With a cash account, the value of securities can rise and fall, and the investor doesn’t have to deposit any additional funds into their account or sell securities at a loss. Investors may also choose a cash account if they want to “set it and forget it,” meaning they invest in securities that they don’t want to keep an eye on all the time since they will never owe the broker more money than they invested – as discussed.

The risk level on a cash account will always be lower than with a margin account, and there are less risky ways to increase returns than by using margin.

On the other hand, for investors interested in day trading, margin accounts may be a great choice, since they allow the investor to double their purchasing power. They also allow investors to short trade. Margin account holders can borrow money to withdraw to pay for any life expenses that need to be paid off in a rush.

Since there is no deadline to pay off the loan, the investor can pay it back when they can, unless the value of the stocks fall. Traders can also borrow money to buy stocks when the market is down or to prevent paying capital gains taxes, but this requires more experience and market knowledge.

Margin accounts provide flexibility for investors, who can choose to use them in exactly the same way as a cash account.

💡 Quick Tip: How to manage potential risk factors in a self-directed investment account? Doing your research and employing strategies like dollar-cost averaging and diversification may help mitigate financial risk when trading stocks.

The Takeaway

The main difference between cash accounts and margin accounts is that margin accounts allow investors to borrow money from their brokers, extending their trading abilities and the use of leverage as a part of their strategy. This can have advantages and disadvantages, and depending on their specific strategy and goals, investors should consider everything before deciding to use one or the other.

Both cash and margin accounts are commonplace in the investing space, and investors are likely to run across both – and figure out which is a best fit for their strategy. It may be beneficial to speak with a financial professional for guidance.

For a limited time, opening and funding an Active Invest account gives you the opportunity to get up to $1,000 in the stock of your choice.

FAQ

Can you trade options on cash and margin accounts?

It will depend on the specific broker, but there are some types of options that require a margin account to trade. An example would be futures contracts – but again, it’ll depend on the specific brokerage or platform.

Should a beginner use a cash or margin account?

It may be better for a beginner to start out using a cash account to invest, as they’re simpler and involve less risk than a margin account. If a beginner uses a margin account without a proper understanding of margin, they could find themselves owing their broker money.

Can you have a cash account and a margin account at the same time?

Yes, you can have cash and margin accounts at the same time, often at the same brokerage. It’s possible to also have different types of accounts at different brokerages or on different investment platforms.

Photo credit: iStock/PeopleImages

SoFi Invest®
INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE
SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

*Borrow at 10%. Utilizing a margin loan is generally considered more appropriate for experienced investors as there are additional costs and risks associated. It is possible to lose more than your initial investment when using margin. Please see SoFi.com/wealth/assets/documents/brokerage-margin-disclosure-statement.pdf for detailed disclosure information.
Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Claw Promotion: Customer must fund their Active Invest account with at least $25 within 30 days of opening the account. Probability of customer receiving $1,000 is 0.028%. See full terms and conditions.

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Oct

2023

When Can You Withdraw From Your 401(k)?

By LeeMarie Kennedy | Growing Wealth, invest, Investing, Preparing for Retirement | Comments Off

If you have a 401(k), odds are, you can withdraw money from it–but there are rules, penalties, and taxes to take into account, depending on several factors. Even so, if you’ve diligently contributed to a 401(k) fund, and watched your balance grow,, you may have found yourself wondering “When can I withdraw from my 401(k) account?”

It’s a common question, and some key things to consider include whether you’re still working or already retired, if you qualify for a hardship withdrawal, whether it makes sense to take out a 401(k) loan, or rollover your 401(k) into another account.

What Are The Rules For Withdrawing From a 401(k)?

Because 401(k) accounts are retirement savings vehicles, there are restrictions on exactly when investors can withdraw 401(k) funds. Typically, account holders can withdraw money from their 401(k) without penalties when they reach the age of 59½. If they decide to take out funds before that age, they may face penalty fees for early withdrawal.

That said, there are some circumstances in which people can take an early withdrawal from their 401(k) account before 59 ½. Each plan should have a description that clearly states if and when it allows for disbursements, hardship distributions, 401(k) loans, or the option to cash out the 401(k).

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What Age Can You Withdraw From 401(k) Without Penalty?

The rules about the penalties for 401(k) withdrawals depend on age, with younger workers generally facing higher penalties for withdrawals, especially if they’re not yet retired.

The IRS provision known as the “Rule of 55” allows account holders to withdraw from their 401(k) or 403(b) without any penalties if they’re 55 or older and leaving their job in the same calendar year.

In the case of public safety employees like firefighters and police officers, the age to withdraw penalty-free under the same provision is 50.

Under the Age of 55

When 401(k) account holders are under the age of 55 and still employed at the company that sponsors their plan, they have two options for withdrawing from their 401(k) without penalties:

1. Taking out a 401(k) loan.

2. Taking out a 401(k) hardship withdrawal.

If they’re no longer employed at the company, account holders can roll their funds into a new employer’s 401(k) plan or possibly an IRA.

Between Ages 55–59 1/2

The Rule of 55, as previously mentioned, means that most 401(k) plans allow for penalty-free retirements starting at age 55, with the exception of public service officials who are eligible as early as 50. Still, there are a few guidelines to consider around this particular IRS provision:

1. Account holders who retire the year before they turn 55 are subject to a 10% early withdrawal penalty tax.

2. If account holders roll their 401(k) plans over into an IRA account, the provision no longer applies. A traditional IRA account holder cannot withdraw funds penalty-free until they are 59 ½.

3. Once a 401(k) account holder reaches 59 ½, access to their funds depends on whether they are retired or still employed.

After Age 73

In addition to penalties for withdrawing funds too soon, you can also face penalties if you take money out of a retirement plan too late. When you turn 73, you must withdraw a certain amount, known as a “required minimum distribution (RMD),” every year, or face a penalty of up to 50% of that distribution.

Withdrawing 401(k) Funds When Already Retired

If a 401(k) plan holder is retired and still has funds in their 401(k) account, they can withdraw them penalty-free at age 59 ½. The same age rules apply to retirees who rolled their 401(k) funds into an IRA.

Withdrawing 401(k) Funds While Still Employed

If a 401(k) plan holder is still employed, they can access the funds from a 401(k) account with a previous employer once they turn 59 ½. However, they may not have access to their 401(k) funds at the company where they currently work.

401(k) Hardship Withdrawals

Under certain circumstances, 401(k) plans allow for hardship withdrawals or early distributions. If a plan allows for this, the criteria for eligibility should appear in plan documents.

Hardship distributions are typically only offered penalty-free in the case of an “immediate and heavy financial need,” and the amount disbursed is not more than what’s necessary to meet that need. The IRS has designated certain situations that can qualify for hardship distributions, including:

• Certain medical expenses

• Purchasing a principal residence

• Tuition and educational expenses

• Preventing eviction or foreclosure on a primary residence

• Funeral costs

• Repair expenses for damage to a principal place of residence

The terms of the plan govern the specific amounts eligible for hardship distributions. In some cases, account holders who take hardship distributions may not be able to contribute to their 401(k) account for six months.

As far as penalties go, hardship distributions may be included in the account holder’s gross income at tax time, which could affect their tax bill. And if they’re not yet 59 ½, their distribution may be subject to an additional 10% tax penalty for early withdrawal.

Taking Out a 401(k) Loan

Some retirement plans allow participants to take loans directly from their 401(k) account. If the borrower fulfills the terms of the loan and pays the money back in the agreed upon timeframe (usually within five years), they do not have to pay additional taxes on it.

That said, the IRS caps the amount someone can borrow from an eligible plan at either $50,000, or half of the amount they have saved in their 401(k)—whichever is less. Also, borrowers will likely pay an interest rate that’s one or two points higher than the prime.

IRA Rollover Bridge Loan

The IRS allows for short-term tax and penalty-free rollover loans, assuming you follow a 60-day rule. In short, the 60-day rollover rule requires that all funds withdrawn from a retirement account be deposited into a new retirement account within 60 days of their distribution, so, within that 60-day window, you can use the money as a bridge loan.

401(k) Withdrawals vs Loans

While most financial professionals would likely tell you that it’s wise to keep your retirement funds where they are for as long as possible, withdrawals and loans are possible. If you do find yourself looking at either withdrawing or borrowing money from your retirement accounts, it may be best to use the loan option as you won’t get dinged on taxes–and assuming that you can pay the money back within the given time frame.

But again, this is likely a decision that should be made with the help of a financial professional.

Cashing Out a 401(k)

Cashing out an old 401(k) occurs when a participant liquidates their account. While it might sound appealing, particularly if a plan holder needs money right now, cashing out a 401(k) can have some drawbacks. If the plan holder is younger than 59 ½, the withdrawn funds will be subject to ordinary income taxes and an additional 10% penalty tax. That means that a significant portion of their 401(k) would go directly to the IRS.

Rolling Over a 401(k)

Instead of cashing out an old 401(k), account holders may choose to roll over their 401(k) into an IRA. In many cases, this strategy allows participants to continue saving for retirement, avoid unnecessary penalty fees, and reduce their total number of retirement accounts.

The Takeaway

While it may be possible to withdraw money from a 401(k) at almost any time, there are things to consider, such as taxes and penalties. Certain factors like age, employment status and hardship eligibility determine whether you can make a withdrawal from your 401(k).

In cases where plan participants do not meet age requirements for withdrawing 401(k) funds penalty-free, they can still take out a 401(k) loan, cash out a pre-existing 401(k) plan, or rollover their 401(k) into a different retirement account. As always, though, it may be best to discuss your options with a financial professional.

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FAQ

Can you take out 401(k) funds if you only need the money short term?

It’s possible, and one way that some people “borrow” from their 401(k)s for short periods of time is by utilizing the 60-day rollover window. While you’d need to open a new retirement account, this rollover period can allow you to borrow retirement funds tax and penalty-free for a short period of time.

How long does it take to cash out a 401(k) after leaving a job?

The period of time between when you leave a job and when you can withdraw money from your 401(k) will depend on your employer and the company that administers your account, but probably won’t take longer than two weeks.

What are other alternatives to taking an early 401(k) withdrawal?

Perhaps the most obvious alternative to taking an early 401(k) withdrawal is to take out a loan from your retirement account instead, which allows savers to repay the money over time without penalty.

SOIN0723005

Oct

2023

A Guide to Corporate Bonds and How They Work

What Are Corporate Bonds?

By Austin Kilham | Growing Wealth, invest, Investing | Comments Off

Bonds can make up an important part of a diversified portfolio, but there can be diversity within bonds as well. For instance, corporate bonds are one type of debt security that may offer higher returns than government bonds, but they might also come with higher.

What Is a Corporate Bond?

A bond is a debt security that functions much like an IOU. Governments and companies issue bonds as a way to raise capital. For example, a state might issue bonds to build a new bridge, and the U.S. Treasury issues Treasury Bills (T-Bills) to cover its expenses.

Corporations also sell bonds to raise capital. They might use the money raised through these financial securities to reinvest in their business, pay down debts, or even buy other companies.

When investors buy corporate bonds, they are loaning a company money for a set period of time. In exchange, the company agrees to pay interest throughout the agreed upon period. When this time is up and the bond reaches “maturity,” the issuer will return the principal. If a company can’t make interest payments or return the principal at the end of the period, they default on the bond.

How Do Corporate Bonds Work?

Bonds are a huge part of the broader securities markets. U.S. fixed income markets comprise 41.3% of global securities. To understand the bond market and how bonds work, you need to know a few important terms:

• Issuer: The entity using bonds to raise money.

• Par Value: Also known as the nominal or face value of the bond, or the principal, the par value is the amount the bond issuers promise to repay when the bond reaches maturity. This amount does not fluctuate over the life of the bond.

• Price: A bond’s price is the amount an investor pays for a bond in the market. This amount can change based on market factors.

• Coupon rate: Also known as coupon yield, the coupon rate is the annual interest rate paid by the bond issuers based on the bond’s par value.

• Maturity: The date at which a bond’s issuer must repay the original bond value to the bondholder.

Benefits and Drawbacks of Corporate Bonds

While corporate bonds can add a lot of benefits to a portfolio, before investing, it’s important to consider the drawbacks, as well.

Benefits	Drawbacks
Bonds, including corporate bonds, can be an important part of a diversified portfolio.	Bonds may offer lower returns than other securities, such as stocks.
MMany investors consider corporate bonds to be a riskier investment than government bonds, such as U.S. Treasuries. As a result, they tend to offer higher interest rates.	If the issuer cannot make interest payments or repay the par value when the bond reaches maturity, the bond will go into default. If an issuer goes bankrupt, bondholders may have some claim on the company’s assets and possibly be able to recoup some of their losses.
Bonds are relatively liquid, meaning it is easy to buy and sell them on the market.	Some bonds are “callable”, which means issuers can choose to pay them back early. When that happens, bond holders won’t earn as much interest and will have to find a new place to reinvest.

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Types of Corporate Bonds

There are three main ways to categorize corporate bonds:

Duration

This category reflects the bond’s maturity, which may range from one to 30 years. There are three maturity lengths:

• Short-term: Maturity of within three years.

• Medium-term: Maturity of four to 10 years.

• Long-term: Maturity of more than 10 years. Longer-term bonds typically offer the highest interest rates.

Risk

Every once in a while, a corporation defaults its bonds. The likeliness of default impacts a company’s creditworthiness and investors should consider it before purchasing a bond. Bond ratings, assigned by credit rating agencies, can help investors understand this risk.

Bonds can be rated as:

• Investment grade: Companies and bonds rated investment grade are unlikely to default. High-rated corporate bonds typically pay a slightly higher rate than government securities.

• Non-investment grade: Non-investment grade bonds are more likely to default. Because they are riskier, non-investment grade bonds tend to offer a higher interest rate and are often known as high-yield bonds.

Interest Payment

Investors may also categorize bonds based on the type of interest rate they offer.

• Fixed rate: With a fixed rate bond, the coupon rate stays the same over the life of the bond.

• Floating rate: Bonds that offer floating rates readjust interest rates periodically, such as every six months. The floating rate depends on market interest rates.

• Zero-coupon bonds: These bonds have no interest rate. Instead, when a bond reaches maturity, the issuer makes a single payment that’s higher than purchase price.

• Convertible bonds: Convertible bonds act like regular bonds with a coupon payment and a promise to repay the principal. However, they also give bondholders the option to convert their bonds into company stock according to a given ratio.

Difference Between Corporate Bonds and Stocks

Bonds differ from other types of investments in a number of important ways. When investors buy stocks, they are buying ownership shares in the company. Share prices may fluctuate depending on the markets and the health of the company. If the company does well, the stock price may rise, and the investor can sell their shares at a profit. Additionally, some companies share profits with their shareholders in the form of dividends.

When an investor purchases a corporate bond, on the other hand, they do not own a piece of the company. The bondholder is only entitled to interest and the principal. Those amounts don’t change based on company profits or the stock price. When a company goes bankrupt, bondholders have priority over stockholders when it comes to claims on the issuer’s assets.

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How to Buy Corporate Bonds

Investors can buy individual bonds through brokerage firms or banks. Corporations typically issue them in increments of $1,000. Much like investing in an initial public offering, it can be tricky for retail investors to get in on newly issued bonds. Investors may need a relationship with the organization that’s managing the offering. However, investors can also purchase individual bonds on the secondary market.

Another way to gain access to the bond market is by purchasing bond funds, including mutual funds and exchange-traded funds (ETFs) that invest in bonds. These funds can be a good way to diversify a bond portfolio as they typically hold a diverse basket of bonds that tracks a bond index or a certain sector.

Investors can purchase bonds through a traditional brokerage account or an Individual Retirement Account. They may be able to purchase bond funds through their 401(k), and possibly individual bonds through a brokerage window within the 401(k).

The Takeaway

Before buying bonds, it’s important that individuals consider how they’ll fit in with their financial goals, risk tolerance, and time horizon. For example, if you’re working toward retirement and have decades to save, you may want a portfolio that’s mostly stocks since stocks generally tend to outperform bonds in the long run. If you’re close to your goal — or have a low appetite for risk — you may want to stick with bonds.

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Photo credit: iStock/Prostock-Studio

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

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SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

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