Quite often, a senior executive's compensation comes in the form of restricted stock, which must be held for a length of time before it can be sold. Rather than sitting on these assets for the required time, savvy investors are turning to restricted stock loans as a new way to improve liquidity and put their money to work for them.

Senior executives are defined by the SEC as "insiders," along with officers, directors or key employees of the corporation, a person owning 10 percent of the company's stock, or anyone with inside, or non-public, information. SEC Rule 144 restricts the sale of securities held by company insiders, stating that securities must be held for at least one year from the date of purchase. Thereafter, during any three-month period, the following amounts may be sold:

• no more than 1 percent of the outstanding shares, or
• the average weekly trading volume of the stock during the previous four-week period.

Stock acquired either through compensation arrangements or open market purchases is considered restricted for as long as the insider is affiliated with the company.

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.

By itself, restricted stock generally is not enough to secure a loan. After all, if the borrower defaults on the loan, the lender is subject to the same restrictions on the sale of the stock. For this reason, reputable lenders will consider such factors as the individual's personal financial situation, cash flow projections, and purpose of loan proceeds. Often, for the purpose of pledging securities as collateral for the loan, restricted stock may be valued anywhere from 5 to 70 percent of its current market value, depending on the volatility of the stock and/or the purpose of the loan. In most cases, a legal opinion will be sought from the borrower's counsel to clarify the specific restrictions he or she has under Rule 144. With no reporting requirements to the SEC, a loan against restricted stock offers the privacy some executives find desirable.

Restricted stock loans are a relatively new way for executives with assets tied up in company stock to finance other pursuits. From a lender's perspective, adequate consideration must be given to the inherent risk associated with any and all securities. With that caveat in mind, restricted stock loans are becoming an increasingly popular tool for meeting the needs of wealthy clients.

Updated: January 1, 2013

This article is for informational purposes only and is not intended as an offer or solicitation for the sale of any financial product or service or as a determination that any investment strategy is suitable for a specific investor. Investors should seek financial advice regarding the suitability of any investment strategy based on their objectives, financial situations, and particular needs. This article is not designed or intended to provide financial, tax, legal, accounting, or other professional advice since such advice always requires consideration of individual circumstances. If professional advice is needed, the services of a professional advisor should be sought.
© 2013 Wilmington Trust Corporation.