Margin accounts in Canada: Boost your buying ower and maximize your investments
Updated: October 10, 2024
A margin account allows investors to borrow funds from their broker, using existing securities as collateral. This boosts buying power, enabling the purchase of more securities than you could with just your own cash.
Think of it like using a loan secured by your own investments. Kind of interesting, right?
The main advantage of margin accounts is their ability to leverage your investments, which means you can potentially score bigger gains. But—and this is a big "but"—it also comes with more risk.
Like, "you could lose more than you put in" type of risk
So, before you dive into margin trading, it's crucial to understand how margin accounts work, the types of investments they support, and their potential benefits before diving in too deep.
Key takeaways
- Margin accounts allow investors to borrow funds using existing securities as collateral, increasing their buying power for investments.
- While margin accounts can amplify potential returns, they also carry significant risks, including the possibility of losses exceeding the initial investment.
- Effective risk management strategies, such as setting stop-loss orders and diversification, are crucial for navigating the complexities of margin trading.
What is an individual margin account?
Whether you’re with TD Direct Investing, Questrade, or RBC Direct Investing, a margin account is a type of brokerage account that allows you to borrow funds to buy more securities than you could with just your own cash.
Your existing investments will serve as collateral for the loan, which again, increases your buying power.
Key benefits:
✅ Increased buying power: You can invest more than what’s sitting in your account, giving you the potential to grow larger positions in the market.
✅ Amplified potential gains and losses: While leverage can score you larger returns, it also means losses can add up fast if things don’t go your way.
✅ Tax-deductible interest: In Canada, the interest you pay on margin loans can be tax-deductible (bonus)—but only if the borrowed funds are used to generate income from investments.
Related Money.ca article: Is borrowing to invest a good idea and how can you do it?
Margin investing example
Let’s break this down with a simple example.
Imagine you want to buy $10,000 worth of stock, but you only have $5,000. With a margin account, you can borrow the extra $5,000. If the stock goes up 25%, your $10,000 investment becomes $12,500. After repaying the loan, you’d pocket $2,500—a nice 50% return on your initial $5,000.
But, and here’s the kicker, if the stock drops by 25%, your $10,000 shrinks to $7,500, leaving you with a $2,500 loss. Ouch.That’s a 50% loss on your original cash. So, yeah, while the upside is real, the downside is just as serious.
| Comparing margin account risks | Stock Increases by 25% | Stock Decreases by 25% |
|---|---|---|
| Initial investment (Cash) | $5,000 | $5,000 |
| Amount borrowed | $5,000 | $5,000 |
| Total Investment | $10,000 | $10,000 |
| Value after price change | $12,500 | $7,500 |
| Gain/Loss | +$2,500 | -$2,500 |
| Return on initial investment | +50% | -50% |
Pros and cons of margin accounts
Pros
-
Amplified returns: Allows you to earn larger profits if your investments perform well.
-
Tax deduction: Interest paid on margin loans can be deducted from your taxable income.
-
Short selling: Margin accounts allow for short selling and certain derivative strategies.
-
Increased flexibility: Provides quick access to more funds for timely investment opportunities.
Cons
-
Magnified losses: Losses can exceed your initial investment.
-
Interest charges: Interest on borrowed money can reduce overall returns.
-
Margin calls: If the value of your account falls below a certain level, you’ll need to deposit more funds or sell securities.
-
Higher risks: Using borrowed money for investments amplifies both gains and losses.
How margin accounts work in Canada
Loan to value (LTV) ratios
In Canada, margin accounts typically allow investors to borrow 50-70% of the value of their securities, depending on the type of investment. So, if you have $10,000 in your account, you could borrow up to $7,000. Not bad, right?
Maintenance margin
This is the minimum amount of equity you need to keep in your margin account, usually around 25-30%. If your account dips below that, you’ll get hit with a margin call. That’s basically your broker saying, “Hey, put in more money or we’ll have to sell off some of your assets.”
Interest rates
Interest rates on margin loans in Canada typically range from 4-10%, depending on the brokerage and the size of the loan. It's important to factor in these costs when calculating your potential returns, as the interest paid on borrowed funds can eat into your profits.
For instance, borrowing $5,000 at an 8% interest rate over 6 months would incur $200 in interest charges, which would reduce your overall profit or increase losses.
Risks of using a margin account
❌ Magnified losses
Just like margin accounts can boost your returns, they can also magnify your losses. If your investments take a hit, you could end up losing more than you put in.
❌ Margin calls
If the value of your investments dips too low, your broker will hit you with a margin call. That means you either need to deposit more cash or start selling off some assets to cover the shortfall. No one likes those calls, trust me.
💡Managing risk
To minimize the risk of margin calls and large losses, it’s essential to use only a portion of your available margin and to monitor your account closely. Other risk management strategies include:
- Stop-loss orders: Automatically sell your holdings if their price drops to a certain level.
- Diversification: Spread your investments across different asset classes to reduce overall risk.
Cash account vs margin account
In a cash account, you can only buy securities with the cash you’ve deposited, limiting your buying power1 to the amount of money you actually have. In contrast, a margin account allows you to borrow funds to increase your purchasing power, which can lead to larger potential gains (but also larger losses).
Think of a cash account like paying for groceries with the cash in your wallet—what you see is what you can spend. A margin account, on the other hand, is like swiping a credit card—you can spend more than what you have, but it comes with the responsibility of paying it back, plus interest. If you’re just starting out, sticking to your wallet (cash account) is safer, but seasoned shoppers (experienced investors) might prefer the credit card (margin account) for extra buying power.
So if you’re new to investing, sticking with a cash account is often the smarter choice. But for more seasoned investors looking to boost their buying power, a margin account provides greater flexibility.
Tax implications of margin accounts in Canada
Tax considerations critically impact margin accounts, influencing the overall profitability of investments.
Interest on borrowed funds for dividend or interest-generating investments may be deductible under Canadian tax law.
Frequent trading in margin accounts can result in taxation as either capital gain (50% taxable) or business income (fully taxable). Consulting a tax advisor is recommended to navigate these complexities and maximize tax benefits.
✅ Deductibility of interest payments
Interest payments on borrowed funds in a margin account are deductible if the funds are used to produce income. To qualify for the deduction, borrowed funds must be used specifically for income-generating investments. Interest paid on money borrowed to invest in shares that do not produce income, relying solely on capital gains, is ineligible for deduction.
Canadian tax law allows tax deductibility for interest charged on money borrowed to earn income.
✅ Reporting gains and losses
Gains and losses in margin accounts must be reported on tax returns, similar to regular investment accounts. Reporting capital gains from margin accounts follows the same tax rules as those from cash accounts.
Accurate reporting on the Income Tax and Benefit Return in Canada ensures compliance with tax regulations.
How to open a margin account
Eligibility
To qualify for a margin account, you need to have a brokerage account with a firm that offers margin trading. Most brokerages will require you to pass a credit check and maintain a minimum balance, which varies from broker to broker.
Related: Best brokerages in Canada
Application process
To apply for a margin account, you must pass a credit check and maintain a balance, which varies depending on the broker. After that, you'll sign a Margin Agreement which details the terms of borrowing, including interest rates, loan-to-value ratios, and the risks involved.
Tip: Be sure to read the fine print — this stuff is important.
Choosing the right brokerage
Choosing the right brokerage is essential when opening a margin account. You’ll want to compare margin rates, platform features, and customer service to find the best fit for your needs. Below is a comparison of top Canadian brokers offering margin accounts.
| Best platforms for Margin trading | Questrade | Webull Canada | TD Direct Investing | RBC Direct Investing |
|---|---|---|---|---|
| Trading platform |
|
|
|
|
| Margin rates |
◦ Stocks: 30% to 100%
◦ Precious metals: 20% to 30% Interest rates vary based on account balance and currency. |
11.825% to 13.575%, depending on account balance.
Rates lower as margin balance increases. |
5% to 9%, depending on margin balance. |
7.25%-9.75%, based on margin balance.
Lower rates for "Royal Circle" clients with higher balances. |
| Platform features |
Margin trading for stocks, options, and precious metals.
Multi-leg option strategies available. |
4x leverage for day trades, 2x for overnight trades, advanced options, real-time data, IPO access. | Advanced trading tools, multi-leg options, short selling, Canadian & U.S. markets, fixed income products. | Margin trading on stocks, ETFs, bonds, mutual funds, GICs, and options. |
| Customer service | Phone, chat, and email support. | 24/7 support via phone and email. | Phone support Mon-Fri, 7 am to 10 pm ET. In-person support at branches. | 24/7 phone and online assistance. |
| Minimum balance for margin | No minimum for basic options. $5,000 for advanced options. | Minimum $2,000 in equity required. | Subject to account approval. | No specific minimum for margin account. |
| Additional features | Full transparency in fees, leverage for multiple asset classes, link TFSA to margin for extra buying power. | Short selling available, margin call notifications, low-cost margin rates, access to advanced charting. | Includes educational resources, TD Active Trader platform, offers GICs and mutual funds in margin accounts. | Multi-currency margin accounts, margin calculators, practice accounts available for strategy testing. |
| Read more | Questrade review | Webull Canada review | TD Direct Investing review | RBC Direct Investing review |
| Get started | Go to site | Go to Webull | Go to TD | Go to RBC |
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Noel Moffatt is a Canadian fintech expert with a passion for simplifying personal finance. Based in St. John’s, NL, he draws on his background in finance, SEO, and writing to deliver clear explanations and actionable advice. Noel is dedicated to equipping readers with the knowledge and tools they need to make informed financial decisions, striving to make personal finance more accessible and understandable through his in-depth articles and reviews.
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