Pledging your portfolio to buy your primary residence


#1

Hi guys!

I’m writing this post both to structure my own thinking and to gather comments, opinions, and experiences.

TL;DR: I am calculating the financial consequences of pledging our portfolio of stocks (instead of selling it) to buy our primary residence instead of renting.

Meet me 30M and my SO 31F. We are married, no kids although that may change, living in Kanton Aargau for the past 7 years in a small but cozy appartment close to a train station, paying about 1340 CHF rent (1460 with Nebenkosten). We don’t have a car and would like to keep it that way :). We are both engineers in the public sector earning a combined gross income of about 210k CHF per year. We save about 75k a year (terrible saving rate by moustachian standards…). Our net worth comprises of:

  • 58k in various 3rd pillars at banking institutions (51k cash earning 0 interest or close, 7k at the LKB in a 50/50 share/bond fund following the advice of this forum)
  • 34k in Fundsmith
  • 210k in stocks and index funds (mainly BRK.B though)
  • about 80k in our 2nd pillars (relevant because we are talking real estate)

My personal goal is FI but not quite sure about complete RE. My wife would like to keep working and have a career.

I’ve always assumed that we would keep renting because we have no interest in “owning” a place and because of the huge opportunity cost that the 20% investment in the property produces. Let’s assume a 800k property. That’s 160k coming from our own pockets. 200k if you count the notary fees. I always knew you could use the 2nd and 3rd pillars but in my mind (and in reality) what we had was too little for even consider it.

What I’ve discovered might not be news to you but it certainly was for me: you may not have to sell your portfolio of stocks, you can just pledge it (in french: Link). And even better: you apparently don’t have to amortize your loan in that case because the totality of the debt is of first rank (Link). Of course the bank applies a discount to your portfolio so it doesn’t provide you with a 100% buying power but 50% seems to be the typical lower limit.

What this offers is the possibility to live in your own home without having to pay a penny of principal. Just pay the interests.

Let’s go back to our example: a 800k property (which would be nicer than what we have right now). We pledge both our 2nd pillars (80k) and a fraction of our portfolio (160k of our portfolio, to get a discounted value of 80k). We then use our 3a to pay the notary fees (50k). With this, we get a mortgage for the full value of the property (800k) that we don’t have to pay back. With current interest rates (let’s be conservative and select fixed rate for 10 years around 1.2% from MigrosBank, although I’ve seen better rates), that makes 800k*0.012 = 9.6k per year or 800 CHF a month.

Significant savings compared to the 1340 CHF we pay now. And that’s if we don’t optimize the rate with different term periods (for instance 50% with 10 years term (1.19%) and 50% with 5 years term (0.92%) would make my monthly payments about 700 CHF). Investing the 500 CHF difference per month at a conservative 5% would give us an extra 77k after 10 years and about 400k after 30 years.

Now this strategy would make us very vulnerable to an increase of the interest rate. Enter the Bad Scenarios.

Let’s assume that after 10 years the interest rates double to 2.4% (Bad Scenario 1). That would make our monthly payments 1600 CHF. More than what we pay now but bearable. But we could use the 77k we saved on rent and invested to reduce our mortgage by about 10% (77/800 = 9.6%) and only pay 1446 CHF a month. Just a 100 CHF more than what we pay now, for a bigger and nicer place. We still have our portfolio and our 2nd pillars. We survive BS1 with a smile. FIRE is still very much an option.

Now, what if the interest rate reaches 5% (BS2). That would make our monthly payment a whooping 3333 CHF. If we reduce our mortgage by the 77k we saved, we are left with a monthly payment of about 3000 CHF. Crazy amount but yet still bearable. At that point, we have two sources of capital to invest:

  • the value of our untouched portfolio after 10 years (more than 650k if we just contribute 2k a month (we do 5k now but we both work full time and no kids, which may change) for the next 10 years at 5% ; about 350k if we stop contributing today and let it grow at 5%), and
  • the value of our 2nd pillar that will keep growing (about 2k a month at 0% => 318k after 10 years).

Both on top of the 77k we would be saving on rent over the last 10 years. We would probably sell 400k worth of shares and reduce our mortgage by 50% and make our monthly payments 1667 CHF. Still more than what we pay now, but not a killer. Lower portfolio but still decent value and two full 2nd pillars. We survive BS2. Most likely no early FIRE but 55 is still in the charts.

But that’s not the worst case scenario. The worst case scenario is if the stock market crashes considerably, let’s assume 50% of current value in 10 years. That’s -7% a year every year for the next 10 years. Let’s combine that with interest rates at 5% after 10 years to create the monster BS3. With these rates the value of our portfolio would barely increase even with 2k monthly contributions to 276k. Let’s assume -7% a year for the 2nd pillar too, which would make even the swiss take the street btw., we get to 211k with 2k monthly contributions. Because the interest rate is 5%, we have to pay 3333 CHF a month.
At this point no bank would refinance a 100% first rank mortgage, so we would have to pay potentially 33% of the value of the property or 264k. That pretty much the entirety of our portfolio. We are left with a traditional 1st rank mortgage for 67% of the value of our 800k property at 5% interest, or 2233 CHF a month. Bad? Yes. We have no investment left and we pay about 1k CHF a month more than a traditional rent. But is it terrible? No. Instead of investing 2k a month as I assumed for the past 10 years, we would only invest 1k a month. And we still have our fully funded 2nd pillars. Conclusion: we also survive BS3. No FIRE but a comfortable traditional retirement.

Now there is a BS4 in which the housing market crashes as well (very likely with interest rates at 5%). At that point, the bank may “margin call” us. This would most likely happen during the 10 year mortgage rather than at the end of it. If the housing market drops suddenly by 20%, we would have to give up some or all of the portfolio that we pledged. Maybe some of our 2nd pillar too. This would be really bad. But at the end of it, assuming the worst, we would be two 41 year old engineers, with no investment, no retirement money and a “rent” of about 20-30% of our income. But we wouldn’t be bankrupt. We would most likely still have decent jobs. And still have 25 years to recover until actual retirement. We would also survive BS4. No FIRE but a decent retirement (maybe not in Switzerland though…).

Btw, I haven’t considered the impact of BS1, 2, 3 and 4 on renting, but it is likely that the costs would increase as well. According to Comparis, a 1337 CHF rent at 1.5% reference interest rate jumps to 1900 CHF when this rate reaches 5%. So it’s not like renting would be a safe haven either.

What I also didn’t account for are the tax consequences. I thought that I would be winning some CHF here as well, by having a large mortgage, but it seems that the eigenmietwert more than compensates the deduction, even by using generous estimates (Eigenmietwert=2% of the price of the property, maintenance charges = 30% of the Eigenmietwert) (calculator). So I should investigate a bit further that aspect…

I also didn’t account for maintenance costs. I know they can be pretty large and very dependent on the property you buy. That’s honestly the main reason why despite all this I’m still sceptical about the whole thing… One of my colleagues had to put 20k on the table because her garage had water infiltration… that’s 3.5 years of rent savings in our case.
This strategy also has the drawback of correlating everything to the performance of the stock market. Whereas one of the benefit of “traditional” real estate investing is to add diversification (even if your portfolio collapses, at least you have your home).

I implicitly accounted for inflation with the conservative estimates. In case of a mortgage (negative investing), it plays in our favors, as our salaries increase, but not the debt.

I know this was a lot of text so if you’ve read until here, congratulations! What do you guys think? Am I missing something? Do you think it’s worth it just to save 500 CHF a month and to have 800k appreciate more or less at the rate of inflation (most likely scenario for real estate at this point, 1% a year).


#2

Since 2014 no Swiss bank is any longer allowed to do 100% property financings (https://www.moneyland.ch/en/loan-to-value-ratio-definition).
If you are very lucky a bank will offer to pledge 10% of your shares (which you need to transfer on a portfolio there with higher costs than now) or your 2nd pillar, and you need to bring 10% hard cash from cash money or third pillar…
Normally you are not allowed to use 3. pillar money for paying the notary fees, you need to be able to pay that cash.

You have to calulate 1% of the property value to maintain it and pay the addional expenses, that’s another 8000.- a year… At this point of the calucation your rent is already cheaper, especially as long as there is Eigenmietwert added to your taxable income.

Additonally you also have to paid down the mortgages direct or indirect, thats another 0.9% of your property value every year… ((80% - 66.5%)/15 years), which need to be budgeted…

And we didn’t talked yet about additonaly insurances needed…


#3

Thanks for your input @Xeno . The way I understood it, what has changed recently in 2014 (or 2012?) is that it is no longer allowed to use the 2nd pillar to cover the 20% of your own fund. You may only cover 10% with your 2nd pillar and the other 10% have to come from your 3rd pillar or cash.

This was to me the only possibility to buy a property in Switzerland. It was until I read the articles that I referenced in my post.

The articles say that pledging your portfolio with a discount is a possibility to replace your own funds. But maybe it’s not possible to combine a pledge of a portfolio and a pledge of the second pillar. They also say that the whole mortgage is a first rank mortgage (which by definition doesn’t need to be amortized). Now these articles might be outdated. Or maybe there is a fine print I didn’t understand. Or they are wrong but that would be weird given that they were published either by a bank or by a consulting company for real estate investment. EDIT: I have found another article which mentions that 90 to 100% mortgages are possible (here, at the bottom)

Now if you know where I could find these banking guidelines you mentioned, it would be helpful.

Regarding the notary fees which need to be paid in cash, you’re probably right.

But for the maintenance cost, I think it’s fair to say that the 1% of the property value is just a conservative estimate used by the bank. It’s as exaggerated as the 5% interest rate they assume. Right?

You also mentioned additional insurances. Which ones are they and how much do they cost?


#4

Hi Triviamaster,

my comments:

  1. your notary fee seams very hight to me. Have you checked the notary website? At least in Zürich they have a fee calculator.
  2. 3a Pillar money counts as cash for the 10% you need to bring. the other 10% can be 2nd Pillar.
  3. you don’t need to pay out your 2nd Pillar either, you can also just pledge it similar to the stock portfolio. Banks consider 80% of the value you pledge (in a similar way your stock is counted with 50%).
  4. Insurance mentioned by Xeno is probably the Kantonal Gebäudeversicherung. It is not much ± 1kCHF depending on the building you buy in and how many other apartments are there
  5. Taxes: you can also save on Vermögensteuer, although not much it will probably make a difference (your new home value is counted with 70% of the purchase value, from this you deduce your mortgage).
  6. from Eigenmietwert there is also a Pauschale (20%) or effective maintenance cost reduction

I hope those extra details help but most important is: Location, location, location.

Second most important is: you will be “investing” your money to upgrade your quality of life and doing it by saving 500CHF month. Meaning, in the end it is not just maths and financials…


#5

I’m not an expert in this topic as I’m not planning on buying a house but I remember reading some interesting articles 1 2 3 that have some similar concepts.
Basically you could pay the 10-20% by withdrawing cash on margin from Interactive Brokers.

Your scenarios seems really negative. I guess central banks won’t have both high interest rates and market crash at the same time…


#6

Yes, you’re right and that is my plan. I didn’t know about the 20% discount value though, so thanks. A question remains though. Let’s say that there is 100k on my 2nd pillar. I pledge it to get 80k buying power. The year after that, my employer and I contribute an additional 12k to my 2nd pillar. Can the bank seize those 12k? Or are they limited to the 100k I originally pledged?

Again, you’re right. I’m just trying to see how much risk that would involve. My quality of life won’t be much improved if my assets are seized because of bad circumstances…


#7

This is the other option that I’ve considered. What I don’t like about it is the possibility of a margin call. I would really hate to have to sell shares at the bottom. We all know that a crash is coming within the next 10 years. 30-50% paper loss within a year is a real possibility. The interest rate is also a bit higher than a mortgage (1.5%) and it is very variable. That means that it could be 2.5% or 5% in 3 years, which would defeat the whole thing.

Yes you’re right, they are pretty bad (and unrealistic by today’s standards). But before 2008 it was widely accepted that a global (US) real estate market collapse was impossible. Yet it happened with the consequences that we know. So I would rather be extra conservative and make sure that my family doesn’t end up living under the bridges…


#8

Do we?
What if a crash in your purchasing power is coming, but the market stays at current levels. You’d be sorry you didn’t buy before. This is as possible as any other scenario.


#9

Well… yes. Crashes are an inherent part of the economic cycle.

I don’t understand your argument. Are you saying that we should all buy equities on margin right now because stocks are likely to appreciate more than the cost of the interest rate?

I’m not advocating for timing the market (i.e., waiting for a crash to invest cash). I’m fully invested at the moment. I’m just saying that being on margin exposes you to terrible risks, that is, to be forced to sell shares at the bottom.


#10

I fully agree, which is why I did not want my indirect amortization into Pillar 3a go into stock market funds. Sorry, I must have misunderstood your original post.


#11

Do we know which bank authorized to pledged stocks to buy a house?
I know that you can take a loan with 3% of interest with Swissquote https://fr.swissquote.com/banking-services/lombard-loan


#12

I know that you weren’t asking me but it is mentioned as a possibility on the blog of Migros Bank. No english version unfortunately…

Au lieu de vendre des obligations, des actions, des fonds et d’autres titres et de les imputer comme liquidités au financement du prêt hypothécaire, vous pouvez également les mettre en gage auprès de la banque. […] Important: les comptes et titres mis en gage doivent se trouver auprès de la Banque Migros, de même que la police originale d’une assurance vie mise en gage. En règle générale, les valeurs mises en gage ne sont pas intégralement imputées aux actifs; le nantissement représente 60 à 90% selon la garantie.


#13

Thanks, then the question is how much custody fees. But as always, most banks in CH keeps fees and info secretives to make harder to compare, you need to go to multiple banks to have some offers.


#14

Of course, the fees are quite high. Something like 0.23% per year just to have your portfolio there. It’s a drawback but you have to consider the alternative: selling your stocks.
The question becomes then: would you rather keep your stocks but have them appreciate 0.23% less per year, or sell them and have your capital not appreciate at all?

Imagine than Vanguard didn’t exist, neither did any low cost fund or ETF and that the minimal fee was 1 or 2%. Imagine that there was a 1 or 2% on all individual stock. Would you rather stay in cash than invest?


#15

You seem to be set on buying a house for some reason but with the numbers you provided, it doesnt make any sense to me.

Lets assume BS4 is a realistic risk scenario then you will have a rather miniscule gain compared to the overall risk. Risk to performance ratio is a thing to watch here.

I do not believe you will be able to save 500chf doing this with a 800k property simply because you will not get financing attractive enough to do that as well as the added cost of 8000chf a year that you have to put in.


#16

What do you mean by CHF 8’000, maintenance costs (1% annually*CHF 800k)? This amount is a good rule of thumb, but you probably forgot that maintenance costs are tax deductible. So basically, CHF 8,000 at a 40% marginal tax rate (decent joint income) becomes CHF 4’800 effective costs :slight_smile:

But still, financing conditions are a valid point. I still believe that pledging would result in a higher interest rate or that there are hidden fees/costs linked to pledging. @triviamaster please let us know once you request an offer by the bank, I would appreciate gaining some information on this aspect as nobody has been able to quantify this cost.

The should I buy or should I rent discussion aside , I tend to think that pledging (10% equity) is a better idea than putting 20% equity for your house. You let your assets compound, while financing your purchase and thus limiting your opportunity cost. Just make sure that you have enough financial buffer in case that interest rates reverse.


#17

Believe me, I’m not. I would rather rent for life. But I’m a pragmatic: I try to find the solution that makes the most sense financially and otherwise. It’s much less trouble to rent. But this freedom can come at a cost. Evaluate that cost helps to make an informed decision.

Let’s not fool ourselves: BS4 is possible but definitely not realistic (in the sense of likely or probable). In the universe of the possibles, BS4 stands at less than 1% in my opinion. And let’s not forget that in the world of BS4, anyone, whether they own a house or not, is in trouble. Switzerland would basically collapse.

That’s a fair point. Let us discuss what is not realistic about this plan. Based on the information I’ve gathered since I posted, it seems that the interest rate would be higher because I would be borrowing against securities. Apparently the bank creates 2 loans: the mortgage at about 1% and the Lombard loan (loan against securities) at 2+% (it’s 4.5% at Credit Suisse!). And apparently, 1st rank mortgage don’t mean that you don’t have to amortize (actually all the information I find online says that 1st rank mortgage don’t need to be amortized but I’ve found a guy who told me that he only has a 1st rank mortgage and that he is expected to amortize it so… I don’t know).

If the loan needs to be amortized, then it would be a serious blow to this strategy… I really don’t want to put any significant part of my own money in an overprized asset.


#18

I’m thinking about requesting an appointment with these guys. The first conversation (1.5 hours) is free. I think that in general it’s a good idea to see what professionals have to offer.


#19

I just got off the phone with DL-Money Park about this question. Here is what they told me:
They confirmed the possibility of not amortizing a 90 to 100% mortgage if a portfolio is pledged and domiciled at the banking institution.

  • The credit is not a Lombard credit. But it limits the range of the lending institutions to the banks (and eliminates the insurance companies). The rates are therefore 0.1 or 0.2 percentage points higher than the lowest rates you can find.
  • If the value of the portfolio decreases suddenly, the bank will ask for additional collateral. But this could be mitigated by regularly investing in a 3rd pillar with them (that way, you put down additional collateral “in advance”)
  • The discount value applied to the portfolio is typically 90% for swiss bonds and 60% for swiss shares. I’m assuming that it will be even lower for american shares and ETFs.

They have suggested an appointment to look at the situation in detail (of course :slight_smile: ) I think I’ll go, just to have a better idea…


#20

It’s a shit deal. The bank will charge you some 0.3%+ for custody alone and scam some on currency conversion for dividends.

If you have to do this, you probably can’t really afford to buy…