You could tap your credit card to make an investment if you're short on cash -- but you probably shouldn't. While buying stocks with funds from a credit card loan or credit card cash advance is possible, it's nearly impossible to realize a profit after fees, interest and taxes.
[Read: Best Cash Back Credit Cards.]
How Can Credit Cards Be Used to Buy Stocks?
You need cash to buy stocks, as investment brokers often require funding from a bank account. Some brokers, such as Stockpile, accept cash from debit cards.
You have two options to get cash from your credit card. Keep in mind that these moves come with interest and other drawbacks.
-- Credit card loans. With a credit card loan, you can borrow against your card's credit limit and get a cash deposit in your account. You'll repay the loan in installments at an agreed-upon interest rate, usually lower than your card's annual percentage rate, but possibly higher than personal loan rates.
-- Cash advance. A cash advance allows you to get cash from your credit card using an ATM, bank withdrawal or a convenience check. Cash advances usually have fees, a higher APR than your card's purchase APR and no grace period, so interest charges start accruing as soon as you take cash out.
Does Buying Stocks With a Credit Card Affect Your Credit Score?
Credit scoring systems don't know what you're charging on your credit cards, but they do know how much of your credit line you're using and whether you pay your bill on time and in full. Your credit card balance and credit utilization go up whether you've gone on a shopping spree or taken out a cash advance or credit card loan for investments.
Using too much of your credit limit can hurt your credit score. "The higher your balance, the (closer) you are to your limit and the higher your utilization ratio will be," says credit expert John Ulzheimer, who formerly worked for Equifax and FICO. "That's not a good thing for scores."
Planning a larger financial move, like buying a home or car? Having a significant balance for any reason can hurt your chances of getting approved for a loan. "If you're planning to apply for a loan, you'll want to have that balance paid way down, especially if it's using up a lot of your credit line," says Jeff Richardson, senior vice president of marketing and communications with VantageScore Solutions.
If you're hoping to pay back your balance quickly with investment gains, you might not be concerned about a short-term credit score drop. But if gains don't materialize quickly enough for you to pay the balance -- and they likely won't -- a short-term credit score drop could become long term.
[Read: Best Low-Interest Credit Cards.]
What Are the Risks of Buying Stocks With a Credit Card?
Any investment carries risk, but your exposure goes up when you buy stocks on credit. Even if you lose money on your investment, your credit card company will still expect payment for the cash you've borrowed.
Consider these complications before you tap your credit line to buy stocks:
-- You could borrow money you can't repay. If you're expecting money to grow from investments, you might be tempted to borrow more than you can pay back in a reasonable amount of time, leaving you stuck with a high credit card balance.
-- Your returns may not outpace fees and interest. Borrowing cash against your credit card isn't free. You'll pay interest whether you take out a credit card loan or cash advance. Say you had a cash advance APR of about 25% with a 5% cash advance fee. "That means if you bought $10,000 worth of stocks using a credit card and paid off the $10,000 balance in two months, you'd have to shell out about $900 in fees and interest," says Stephen Au, senior content contributor at credit card resource Upgraded Points. To walk away in the green, you'll need stock returns that beat your cash advance interest and fees -- which isn't likely given that the average stock market return is about 10% each year, and this number can vary widely.
-- You may pay taxes on gains. You don't make money until you sell the stock, which you may be tempted to do quickly to lock in any gains against your APR. But if you sell stock for a profit less than a year after buying, you'll be taxed on the gains at your regular income tax rate, rather than the likely lower capital gains tax rate.
Should You Buy Stocks With a Credit Card?
The answer is almost always no. Investing with borrowed money is risky business , and the odds aren't on your side.
"There are very few scenarios where buying stocks with a credit card is a good idea," says Au. "It almost always ends badly."
Even if you see capital gains, they can be outweighed by interest, fees and taxes.
"Ask yourself: Are you astute enough of an investor to make investments that will outpace the interest you'll pay on the debt?" says Ulzheimer. "If your stock appreciates 10% this year and your APR is 25%, you lost money even though the value of your stock went up."
The likelihood you'll come out ahead buying stocks with cash from your credit card gets smaller and smaller the more risks you consider, says Ulzheimer. "You really have to blow it out of the ballpark."
And if you don't, your credit card bill will still be there.
[Read: Best Rewards Credit Cards.]
What Are Some Alternatives to Investing Using a Credit Card?
If you want to invest, there are plenty of options besides using funds borrowed from a credit card. Anything that doesn't charge you an interest rate is preferable, even if it means investing more slowly, says Richardson. "Use your cash on hand. Do it over time, not a one-time deal."
Alternatives to using a credit card loan or cash advance to buy stocks include:
-- Credit card rewards. Redeem cash back rewards to your checking account, then move the funds to your brokerage. Some credit cards, such as the Fidelity Rewards Visa Signature Card and Schwab Investor Card from American Express, can deposit rewards directly into eligible investment accounts.
-- Brokerage margin loans. Your brokerage may allow you to borrow money against current investments, and you can use those funds to buy additional stocks. Interest rates for margin loans are generally lower than credit card interest rates, but these loans are risky, too. Your balance will come due whether or not your investments pan out
-- Employer-sponsored or self-employed 401(k). Saving for retirement might not seem that exciting, but it can pay off in the long term. If you use a traditional 401(k), you'll use pretax money to invest, with taxes deferred until you retire and take out funds.