How Restricted Stock Loans Work
Stock loans allow investors to liquefy some or all of their shares without having to sell them. Yet, some forms of stock cannot be sold until a specific date. They are called restricted stocks.
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This form of stock is tied up in corporate assets for one or more years. Compensation for senior executives (SECs) is often paid in the form of restricted stocks. As time goes on, restricted stocks are becoming more commonplace as a means of enabling wealthy borrowers to meet their needs.
Although restricted stocks must be held for a set amount of time, they can still be liquefied in the form of stock loans. While holding onto them until they can be sold, share owners are increasingly considering restricted stock loans. By doing this, they are more apt to take the loan proceeds and use these funds in alternate investments, block purchases, or anything the borrower desires.
A Popular Way of Share Financing
Though relatively new, restricted stock loans are becoming a popular way of share financing. By themselves, restricted shares of stock cannot guarantee a loan. In the event the debtor should fail to meet the loan obligations, the lender still cannot sell the stock immediately. Hence, prominent lenders must take into account things as the client’s financial situation, projections of cash flow, and what purpose the loan will be used for.
SECs typically have “inside information” which, of course is not available to the public. Others who have access to this private data are officers, directors or key employees, and investors that hold at least 10% of the stock. A special rule called SEC Rule 144 places a restriction on selling securities that are locked in by individuals that have access to company insiders must by all means keep the security held for one year from the date of purchase. Any shares acquired either from compensation arrangements or purchased on the open market will remain restricted as long as the insider works with the business.
Also, the value of restricted stock varies, ranging from 5% to 70% of its current market value and its likelihood to change in value. Often times, a lawyer’s opinion is needed from the debtor’s counsel to make the restrictions clear as conducted according to Rule 144. If a SEC has no reporting requirements, a loan utilizing restricted stock gives the investor a sense of privacy.
While Rule 144 regulates how and when restricted shares may be sold, company insiders may be eligible for a loan against restricted stock. For example, a business executive with 5 percent voting control and restricted shares in a company wishes to finance her purchase of real estate. Since she is restricted from selling the stock she can pledge her shares as collateral for a loan, and borrow against them to finance her purchase. Proceeds from the loan may be used to purchase just about anything, whether it is real estate or other securities, or for another purpose.