Portfolio management and mitigating capital gains taxes can require regular juggling, especially when the portfolio has large stock holdings. The juggling becomes even more complex when the asset owner decides to borrow against the portfolio to fund other large purchases. However, strategic management, leverage, and use of hedging tools for risk mitigation can not only fund a business and the purchases, but make for a stronger appreciation on the portfolio than the stock appreciation alone.

A financially sophisticated Reddit poster in his late 30’s recently explained his business model strategy, which is quite impressive: The poster has inherited an $80 million trust with $65 million of it as a stock portfolio. He doesn’t want to get hit with huge capital gains taxes by selling any of the stocks unless they stop appreciating. Therefore, he has created an innovative way to avoid capital gains while deploying the portfolio to fund a business and possibly other assets to grow his personal net worth.

Self-Debt Finance – A House of Cards or a Solid Strategy?

Asset wise, the poster currently has the following:

• $80 million trust, of which $65 million is in stocks, remaining $15 million undisclosed.
• $6 million in personal investments with hedge funds managed by two investment banks.
• $1.2 million in annual passive income from the investments.

The Strategy is predicated on an attractively low-interest financing credit line provided by the investment banks against the stock portfolio: 1.5% base plus SOFR (Secured Overnight Financing Rate). At the time of this writing, SOFR is 4.57%, so the poster’s total interest rate on funds is roughly 6%. He and his partner are managing real estate and are now using the credit line to finance short-term real estate-related loans. The arbitrage between what he charges for the real estate loans vs. his own costs nets them 100-200% profit, on average. 

The poster’s careful and prudent use of covered call writing and option spread strategies on the larger stock positions is his hedge. While they are hypothecated, they are shielded from a sudden margin call if there should be a market disruption. He is also disciplined about the size of the loans relative to the overall portfolio size. 

The poster inquired on Reddit as to the thoughts on using this strategy for his personal acquisition of real estate property or a new car. The protocol would be to use the margin cash to buy the property or car outright and then pay the interest and principal at his leisure. 

Some Thoughts and Takeaways

The poster is basically using the inheritance in a very intelligent way to fund what is essentially a private real estate BDC (Business Development Company), using comparable interest rate arbitrage strategies. He could certainly deploy it for his own use, and if the real estate is intended to generate additional passive income via rent rolls, that is a perfectly logical and sensible move. There are some aspects that he neglects to mention, so whether or not he already has accounted for them remains to be seen, my suggestions for him to consider would be::

• There is no mention of the $15 million non-stock assets of the trust. If any of these are not appreciating or could be used to fund real estate acquisition, that can be done separately from the stock portfolio being used by the BDC.
• As capital gains taxes are a concern, he might wish to start transferring stock allocations into retirement accounts, like IRAs and HSAs, as it does not appear he has established any retirement savings to date.
• As his $1.2 million salary is passive income, the purchase of property or a car officially “designated” for use by his business can give him tax deductions that might be enough to warrant. Being done separately from the trust funds.
• The election of President Donald Trump should make the poster’s business more lucrative in the future. Interest rates should come down further, and both previous tax cuts as well as additional new ones, according to campaign promises, are likely on the horizon, given Trump’s high percentage of past promises kept.

This article is intended solely to be informational, so anyone seeking more in-depth and specific guidance should seek a financial professional.

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