FINRA: Beware stock-based loan programs

WASHINGTON — The Financial Industry Regulatory Authority issued a new Investor Alert — Stock-Based Loan Programs: What Investors Need to Know — to educate investors about non-recourse stock-based loan programs, including the risks and rewards of these loans. Stock-based loans might be tempting for investors who need cash — or who want to tap the value of their portfolios without selling their investments. However, as recent FINRA enforcement actions confirm, stock-based loan programs can be risky, especially when they involve non-recourse loans from unregistered, unregulated third-party lenders.

"Investors who want to tap into the value of their portfolio through a stock loan program should realize that these programs involve significant risk and cost, and may result in unintended tax consequences," said John Gannon, FINRA's Senior Vice President for Investor Education.

As Stock-Based Loan Programs: What Investors Need to Know explains, stock-based loan programs allow investors to pledge fully paid stock as collateral for non-recourse loans from third-party lenders, who are generally unregistered and unregulated. These programs, typically marketed by financial planners, investment advisers, insurance agents and others, supposedly allow investors to borrow money against a substantial percentage of their portfolio without giving up the benefits of owning the stock.

Essentially an investor "pledges" stock that he or she owns as collateral to a lender, which lends the investor cash — often as much as 90 percent of the value of the stock — for a set period of time, such as two or three years. The customer agrees to pay interest — often above 10 percent — and is credited with any dividends paid on the stock the customer pledged. At the end of the loan period, the customer generally has several options, including extending the loan or getting the stock back.

Investors using stock-based loan programs should realize that whether or not the lender sells the stock during the loan period, the Internal Revenue Service might consider the transfer of the stock to be a taxable event. As a result, investors might face unexpected tax liabilities and have to pay capital gains taxes upon receipt of the proceeds of the loan or upon the lender's sale of the stock.

Stock-Based Loan Programs advises that the best step investors can take is to ask questions and independently verify those answers. All investors considering these programs should ask the following.

Are the lender and promoters registered with FINRA or with bank regulators?

  • Does the lender have audited financials?
  • What happens to my stock once I pledge it as collateral?
  • What benefit does the promoter receive for recommending the program?
  • If I purchase a financial product with the proceeds, what are the costs and risks?

Investors who are victims of stock-based loan program scams are urged to file a complaint using FINRA's online Investor Complaint Center.

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