What Is a Non-Purpose Loan?
Let me explain what a non-purpose loan is directly to you. It's an alternative loan type that typically uses your investment securities as collateral and involves some complex structuring. If you're dealing with regulated non-purpose loans, brokerages and financial institutions can offer them, but they come with specific government-regulatory documentation requirements.
Key Takeaways
Here's what you need to know upfront. A non-purpose loan serves as an alternative that relies on investment securities for collateral and uses complex setups. Even when you put up your holdings as collateral, you can still enjoy the benefits from your portfolio, like dividends, interest, and any appreciation, all without selling your investments. Remember, financial institutions have to disclose to the Federal Reserve under Regulation U if a loan qualifies as non-purpose.
How a Non-Purpose Loan Works
I'll walk you through how these loans operate. Regulated non-purpose loans let you use your investment portfolio as collateral for borrowing, but you can't use the proceeds to purchase, carry, or trade securities. The big advantage here is that you get access to cash without liquidating your investments.
You might see non-purpose loans as a category on various lending platforms. Lenders usually ask you to specify a purpose for a personal loan, which is crucial on online platforms where investors pick loans based on that purpose. Regulations mandate that financial institutions disclose if a loan is non-purpose or purpose-based under Federal Reserve Regulation U. If you're getting one, you'll need to fill out a compliance form outlining the loan terms and its non-purpose status.
Loan Platform Categories
On online loan platforms, non-purpose loans often appear as personal loans where you don't specify a use. Investors on sites like Lending Club or Prosper choose based on the loan's purpose, so this classification helps them assess investment risks.
Non-Purpose Loan vs. Margin Loan
Let me compare non-purpose loans to margin loans for clarity. Non-purpose loans are an alternative to traditional margin borrowing since they allow you to secure the loan with multiple investment accounts. Both types let you keep receiving portfolio benefits like dividends, interest, and appreciation, and both can trigger a margin call if your pledged securities drop below a certain value. But there are key differences.
Non-purpose loans are often marketed as securities backed lines of credit, or SBLOCs, and they're generally more complex to get than standard margin loans. Crucially, you can't use them to buy securities, while margin loans are specifically for investing in securities. Brokerages provide margin loans on single accounts, but SBLOCs let you use investments from multiple accounts, and some might require a specific account for the proceeds.
Example of a Non-Purpose Loan
Take Charles Schwab's Pledged Asset Line of Credit as an example. You can access up to 70% of your collateral assets as cash through this loan. Terms go up to five years, and the only fees are for late payments. As with all non-purpose loans, you can't use Schwab's version to buy securities.
