Leveraged investing using a loan

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zarci
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Joined: Sat Jun 10, 2017 11:02 am

Leveraged investing using a loan

Post by zarci » Sat Sep 22, 2018 2:29 am

Context:

I'm an independent contractor, and as such most of my financial reserves are in my (one-man) company. Taking them out would incur a 30% dividend tax when withdrawn immediately, a rate that drops down to 10% over a period of five years.

However, I recognise the opportunity cost of letting this reserve sit idle for five years straight. I've talked about this with my accountant who suggested the possibility of me personally taking out a loan from my company as lender. This loan would allow the financial reserve to be invested immediately, but incurs ~2.4% interest.

So, a potential ROI of ~5% reduced by ~2.4% interest rate leaves a remainder of ~2.6% return on those first five years.

I understand leveraged investing is risky. In this particular case I'm both the lender and the beneficiary of the loan, so I'm assuming the debt were to vanish in thin air if I'd liquidate my company (On liquidation the principal returns to company, accrued interest is taxed and then the sum is immediately taxed and returned to my private person). There of course is the risk of my company exploding due to some calamity.

My questions;
  • Am I missing something here? Does the ~2.6% return alongside with the additional risk make sense?

    What would be the estimated returns (and volatility) for a short-term (~5Y) investment in bonds? I could invest from within the company, but returns would be taxed 20%

    I can invest from within the company in long-term index funds, however only with 50% of my financial reserves. So for the remaining 50% my question remains the same

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market timer
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Joined: Tue Aug 21, 2007 1:42 am

Re: Leveraged investing using a loan

Post by market timer » Sat Sep 22, 2018 3:33 am

I wouldn't call this leveraged investing. You are potentially borrowing from yourself to invest, so I don't believe the interest rate is all that relevant. Perhaps it is only to the extent that your business will owe tax on the interest, but you are unlikely to be able to write-off the interest paid on your personal taxes. Potentially, this is a good way to enable you to invest how you like and avoid the 30% dividend tax. I guess my only suggestion would be to keep your bond holdings in the business account, and only borrow from yourself what you would use to buy equities. That way you aren't paying taxes on interest income twice.

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