Some people embrace the blossoming of spring every April, but for others, April signals only one thing: tax season.

Despite solid planning, changes in tax laws and the market may mean that when tax time arrives, you need to raise funds.

Upcoming tax obligations don't have to disrupt your investment strategy or deplete your cash reserves. Borrowing for taxes may be a cost-effective way to make your tax payments and keep your cash and investments intact for continued long-term growth.

What matters to you 

  • A securities-based line of credit can be a cost-effective and straightforward way to pay a large tax bill.
  • High net worth investors should work with a trusted advisor to determine the best solution for addressing their liquidity needs.

Options for funding an upcoming tax bill 

  1. Cash: Paying cash is easy and straightforward. But relying on cash to cover tax bills requires liquidating cash reserves, which means losing out on the interest or growth that money would otherwise earn, reducing future flexibility.
  2. Liquidating assets: Liquidating securities is easy and relatively fast, but not immediate. A sale can also trigger unfavorable tax consequences, such as a capital gains tax, that add to your tax burden, and may disrupt your long-term investment strategy and returns. 
  3. A line of credit: With a securities-based line of credit, you can quickly pay your tax bills without disrupting your investment strategy, depleting your cash reserves or creating unnecessary tax events. You avoid having to sell assets, since you still hold your investments. 

Using a line of credit “provides a lot of flexibility, saves the client money, and reduces the risk of lost opportunity while keeping the investment strategy in place," says David Panneton, Hawthorn Director of Banking.

It's not a solution available to everyone, but understanding more about how this line of credit works might demonstrate how it could work for you — and not just for tax purposes, but for other liquidity needs or large purchases.

A securities-based line of credit has several advantages 

Typically, investors won't pay any fees for taking out a line of credit. Once approved, the client can draw-down against the line of credit; the funds will be deposited into their bank account for spending. Investors only pay interest on the money they draw. 

Say you have a $25 million investment, and you have an annual recurring $300,000 tax bill. You could sell some of your assets, but using a line of credit offers more flexibility and helps smooth out the financial impact. Additionally, a line of credit eliminates the difficulties with timing the market. You may choose to pay back the loan over the course of a 12 month period with recurring cash flow or may decide to liquidate securities over time in a more strategic manner. Assuming the average return of 6.7 percent, the line of credit offers a $19,949 advantage.

1-Year Projection - $300k Tax Liability 

  Hawthorn Client A  Hawthorn Client B
 

Funded from Portfolio

1 Yr. Amort. Loan at 4.5%
Starting Portfolio Market Value $25,000,000 $25,000,000
Liquidation Amount $300,000 $-
Remaining Investment $24,700,000 $25,000,000
Total Pre-Tax Portfolio Return[1] $1,660,766 $1,680,938
Realized Capital Gains Tax[2]

-$7,140

$-
Total After Tax Portfolio Return $1,653,626 $1,680,938
Total Loan Interest Cost[3] $- -$7,363
Net After Tax & Loan Interest Portfolio Return $1,653,626 $1,673,575
Line of Credit Value Added $- $19,949

The advantages are greater if you have a large, event-driven tax bill, perhaps from a sale of business assets, or a large non-recurring capital gain. In this case, you have a $25 million investment, and you need $3 million to cover a looming tax bill. You could sell some of your assets, but that would shrink your portfolio to $22 million.

Instead, you could advance against a securities-based line of credit. The full $25 million remains invested. Assuming a 6.7 percent return on your portfolio and taking into consideration the cost of the line of credit, the line of credit offers an $869,275 advantage over five years.

5-Year Projection - $3mm Liability

  Hawthorn Client A  Hawthorn Client B
 

Funded from Portfolio

1 Yr. Amort. Loan at 4.5%
Starting Portfolio Market Value $25,000,000 $25,000,000
Liquidation Amount $3,000,000 $-
Remaining Investment $22,000,000 $25,000,000
Total Pre-Tax Portfolio Return[4] $8,459,871 $9,613,490
Realized Capital Gains Tax[5] -$71,400 $-
Total After Tax Portfolio Return $8,388,471 $9,613,490
Total Loan Interest Cost[6] $- -$355,743
Net After Tax & Loan Interest Portfolio Return $8,388,471 $9,257,747
Line of Credit Value Added $- $869,275


“Everyone's needs and portfolio will be different, which is why we always recommend discussing options with your trusted banking advisor," Panneton says. “Our advisors can customize solutions with you and determine the best options for your needs and particular situation."

Liquidity when you need it

Beyond tax time, establishing a securities-based line of credit can offer liquidity for a variety of needs, including: 

  • Taking advantage of investment opportunities, e.g., private equity or other business investments
  • Funding a philanthropic or estate planning strategy
  • Buying a new home before selling your current home i.e. bridge financing
  • New home construction/renovation
  • Financing the cost of continued care facilities for a loved one

You've been smart with your money, investing wisely for your future. By tapping securities-based lines of credit, you have the flexibility to take advantage of that wealth, without impacting your future. 

Speak with your Hawthorn advisor today to determine if a line of credit is the right solution for you.