Discover the benefits of borrowing to invest for your future

There are two ways you can borrow money to invest in shares.

The first way is to take a loan from an existing asset, such as property. For example, say you have a home worth $1 million with an existing loan of $500,000. It may be possible to draw down a further loan of $300,000 against your home. This $300,000 can then be invested into shares. The interest payable on the home loan may only be 3%, while the dividend return on the shares could be 4%. This then allows you to pay down the loan with the income from the shares while enjoying the longer-term upside of your share prices increasing.

The second way of borrowing money to invest is through a margin loan, which is a loan that’s secured against the shares themselves. Let's say you wanted to purchase $300,000 in shares but only had $150,000 in cash. To achieve a $300,000 portfolio, you could take out a margin loan for another $150,000. The interest on a margin loan tends to be higher than a property loan and is closer to 5% per year.

Using loans to boost your investments can be a smart move if you’re open to taking on more risk for potentially higher returns. However, with increased risk comes greater uncertainty, so it’s crucial to seek expert advice before proceeding.

A key step is to create a financial model that evaluates whether additional borrowing is necessary to meet your goals. If you can achieve your objectives without taking on extra debt, it might not be worth the risk. Always consult a professional to assess your overall financial position, tax structure, and investment choices.

Borrowing to invest in shares can either add to your taxable income or reduce it. It all depends on the type of shares you buy, the type of loan you take out, and where the shares are owned.

With interest rates staying low in recent years, it can be possible to generate more income from the shares you’re buying than the loan you use to purchase them. For example, a loan may be at a 3% interest rate, and the dividend income from shares may be around 4%. This creates an extra 1% of taxable income. However, it’s important to consider interest rate risk, as rising rates can increase your loan costs, affecting your net returns and overall tax position.

How much income your shares generate depends on the type of shares you buy. Some companies are more growth-oriented and pay less in dividends, which means you may be paying more interest than you receive in dividend income. This is called negative gearing. In this situation, the interest expense of the loan can offset other income you earn and can be a good way to reduce your tax bill.

It’s important, too, to consider the ownership of the shares before you begin thinking about what shares to buy. If you are likely to have the shares negatively geared, then it may make sense to have them held in the name of the highest-income earner in your family. Alternatively, if the shares are going to earn more income than the interest you’re paying, it may make sense to have them in the name of the lowest income-earning member of the family. You’ve also got the consideration of where the shares are owned, whether it’s a family trust, a company, or an SMSF.