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When you purchase an investment property, you're able to rent out that home and earn money for it. And when it comes to investing in stocks, you can actually do something similar. It's called stock lending and it allows you to earn extra money for the shares of stocks sitting in your account.
There's a lot to learn about whether stock lending is a good fit for your finances, so CNBC Select breaks it down for you below.
Stock lending (also known as securities lending) is when you allow another party — typically a financial institution — to temporarily borrow stocks that you already own. In return, you typically get paid a fee. Think of it as "renting" out your stocks for institutions or other parties to use.
Institutions typically borrow stocks for trading activities, like settlements, short selling and hedging risks. While you're allowing others to borrow your stocks, you still retain ownership over them and can sell them anytime you want. When you sell, you'll still realize any gains or losses on the stock.
The main way stock owners earn money from lending out their stocks is by collecting a monthly fee from borrowers. It's hard to say how much you may earn from stock lending since the payout can depend on how much a borrower wants it. Stocks with low availability and high demand are typically the most likely to result in higher earnings for the stock lender since they're most likely to get borrowed by other parties.
Keep in mind that institutions usually need to borrow stocks for activities like short selling. It can be difficult to predict which stocks an institution is going to short. And even if you own shares of a stock that's in high demand, you're unlikely to see a big payday from stock lending if many other people also own that stock.
According to Shane Sideris, a CFA and Managing Partner at Synchronous Wealth Advisors, there are some key considerations and risks to take into account when thinking about using stock lending to earn more money.
Your potential tax liability
One major consideration lies with your tax liability. If you own a stock that pays you a qualified dividend, you'll be taxed on the dividend at either 0%, 15% or 20% depending on your taxable income and filing status. But when you're lending your stock, you'll no longer receive a dividend payout. Instead, you'll receive a cash payment, which could be taxed at your regular income tax rate. Oftentimes, an investor's regular income tax rate is higher than the tax rate for qualified dividends.
"If you're lending a share of a stock that pays dividends, you no longer get the dividend payment," Sideris explains. "Instead, you get cash equivalent to the dividend amount. However, the taxes are different for the cash payment, so you could have a slightly higher tax burden or even a more complicated tax burden."
Because of this, it might make sense to consult with a tax expert before deciding to participate in stock lending. They can help you figure out the tax implications and prevent you from receiving a tax bill that's higher than you can afford.
Your loss of voting rights
Owning stock in a company sometimes grants you voting rights for certain decisions that will affect the company's future. When you lend out stock, you also give the borrower any voting rights that may have come with owning that stock. "Most people don’t care about voting and don’t care to vote to begin with," Sideris says. "But it's still worth thinking about."
Loss of insurance coverage
"Inside an investment account, your securities are covered by SIPC insurance, which is similar to FDIC insurance," Sideris says. "It covers you up to a limit. But for lent-out shares, you actually lose that SIPC insurance coverage."
SIPC insurance protects you in the event of the loss of cash or securities, like stocks and bonds. So in the unlikely event that your brokerage collapses, for example, you wouldn't completely lose all the money you invested. But when your shares of a stock are currently being borrowed, they're temporarily not protected from loss.
Again, Sideris mentions that this is most important in very extreme circumstances — like the one described above — but that loss of protection is still very much worth thinking about.
Potential borrower default
Perhaps the biggest risk, though, is the instance where the institution borrowing your shares defaults and can't give the shares back to you. While your investment is no longer SIPC-insured while it's being lent out, Sideris notes that institutions borrowing shares must put up collateral that's equivalent to 105% of the value of the shares they're borrowing. This money would be used to pay you back if the institution defaults.
"So if I'm a hedge fund and I'm borrowing your $1,000 worth of stock, I have to set aside $1,050 in cash in a separate account and leave it there for the duration of the time I borrowed it," Sideris says. "You get access to that collateral so it mitigates that risk of default."
However, even if you get back the value of the borrowed shares, you'll have to repurchase those stocks if you want to own them again. This means you could miss out on any potential upward movement in the stock's value.
Again, the risk of a borrower defaulting is low but it's still good to educate yourself on the possible scenarios and make sure you can emotionally stomach the risk.
Many brokerage firms and platforms have some guidelines on who can use their stock lending features to allow others to borrow their shares. The criteria vary by brokerage but eligible users will typically need some investing experience, meet a minimum requirement on their account, and not be engaged in day trading or similar activities.
Robinhood, for instance, requires users interested in stock lending to have an account value of at least $5,000, at least $25,000 in reported income, or any trading experience other than "none." According to its website, Robinhood flags accounts for pattern day trading and these flagged accounts are not eligible for stock lending.
Minimum deposit and balance
Minimum deposit and balance requirements may vary depending on the investment vehicle selected. No minimum required to open an account or to start investing
Fees may vary depending on the investment vehicle selected. Commission-free trading; regulatory transaction fees and trading activity fees may apply
Robinhood will add 1 share of free stock to your brokerage account when you link your bank account and fulfill the conditions in your promotion (you'll be able to keep the stock or sell it after 2 trading days)
Brokerage account: Robinhood Financial commission-free investing
Stocks, ETFs, options trading, fractional shares, IPOs, plus certain cryptocurrencies through Robinhood Crypto (depending on where you live)
Most importantly, though, it's important to educate yourself on the ins and outs of stock lending since it can be a complex process due to all of its nuances. According to Sideris, stock lending is overall best for individuals who are okay with stomaching more risk and more complexity.
On Robinhood, it's rather simple to enable the stock lending feature, assuming you've met the account minimums and other criteria for eligibility. Users would open up the Robinhood app, go to account settings, select "investing" and then select "enable stock lending."
Similarly, TD Ameritrade customers can request access to this feature (called the Fully Paid Lending Income Enrollment Program) by going into their account and navigating to the Elections & Routing page, selecting the program and then selecting "apply."
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Stock lending may seem like an appealing way to make extra cash for investments you already own that are just sitting in your account anyway. However, there are many nuances to be aware of, particularly where your tax burden and risk of default are concerned. If you aren't sure if this sounds like something that makes sense for you to do, you should speak to a financial professional for customized advice.