Margin Loans Explained: Borrowing From Your Broker, and How a Margin Call Happens

The buy, borrow, die post showed how the wealthy borrow against their stock, and the HELOC post covered borrowing against a house. The most direct way for an ordinary investor to borrow against stock is a margin loan: a loan from your broker, backed by the investments in your account.

How margin works

A regular brokerage account is a cash account: you can only buy what you’ve paid for. A margin account lets you borrow from the broker, using your stocks and funds as collateral. You need at least $2,000 in the account to open one, and you have to sign a margin agreement.

The Federal Reserve’s Regulation T sets the initial margin at 50%. That means you can borrow up to half the cost of a stock purchase. With $10,000 of your own money, you could buy up to $20,000 of stock: $10,000 yours, $10,000 borrowed.

There’s no fixed repayment schedule. Interest is charged on the loan balance and added to it, and the loan stays open as long as your account has enough equity.

Why people use it

Leverage. If that $20,000 position rises 20%, it’s worth $24,000. After repaying the $10,000 loan, you have $14,000: a 40% gain on your own $10,000, before interest.
Liquidity without selling. You can borrow cash against your portfolio instead of selling shares and paying capital gains tax. It’s the same idea as the “borrow” step in buy, borrow, die, on a much smaller scale.
Short selling. Selling borrowed shares to bet on a drop requires a margin account.

Leverage works in both directions

Leverage magnifies losses just as much as gains. If the $20,000 position falls 20% to $16,000, you still owe the full $10,000. Your equity drops to $6,000: a 40% loss on your money. A 50% drop wipes out your equity completely, and a bigger drop means you owe the broker more than the account is worth.

How a margin call happens

After the purchase, you have to keep a minimum level of equity in the account, called the maintenance requirement. FINRA sets the minimum at 25% of the account’s value, and many brokers require 30% or more, sometimes higher for volatile stocks.

Using the example above with a 25% requirement:

You owe $10,000. The account’s equity must stay at least 25% of its total value.
That line is crossed when the position falls to about $13,333, a drop of about 33%.
At a 30% requirement, the call comes at about $14,286, a drop of about 29%.

When you fall below the line, the broker issues a margin call: deposit more cash or securities, or sell enough to bring the account back up. Two details catch people off guard:

The broker doesn’t have to wait for you. Your margin agreement lets the broker sell your holdings without notice, and it chooses which positions to sell.
Brokers can raise requirements at any time. During market stress, they often raise maintenance levels on specific stocks, which can trigger margin calls even if prices haven’t moved much.

The result is that margin calls tend to force selling near the bottom, locking in losses that might otherwise have recovered. Forced margin selling helped deepen the 1929 crash and many sharp sell-offs since.

What it costs

Margin interest rates are variable, usually set from a broker’s base rate and tiered by how much you borrow. Larger balances get lower rates. Rates vary a lot between brokers, so compare before borrowing, and remember that rising interest rates raise your cost on the whole balance.

To come out ahead, your investments have to return more than the interest rate after taxes. That’s a high bar to clear consistently.

The tax angle

Margin interest can count as investment interest expense if you used the loan to buy taxable investments. You can deduct it only if you itemize, and only up to your net investment income for the year, using IRS Form 4952. Unused amounts carry forward. If you use margin to pay for living costs instead, the interest isn’t deductible this way.

Margin also isn’t available in standard IRAs, which can’t borrow against their assets.

Margin vs. the alternatives

Securities-backed line of credit (SBLOC): also backed by your portfolio, often at lower rates for larger accounts. It usually can’t be used to buy more securities, so it’s for spending, not leverage. It carries the same collateral risk.
HELOC: typically cheaper and not subject to daily market swings, but your home is the collateral.
Not borrowing: for most long-term investors, the simplest option is often the best one.

The short version

A margin loan lets you borrow from your broker against your investments, up to 50% of a purchase. It magnifies gains and losses equally, and if your equity falls below the maintenance requirement, your broker can sell your holdings without asking, often at the worst moment. If you use it, borrow far less than the maximum, keep cash available to answer a call, and know exactly how far your account can fall before the call comes.

Not investment advice — just an explanation of how margin loans work. Talk to a financial professional about your own situation.