How does a margin account differ from a cash account?

How does a margin account differ from a cash account?

• A. It requires higher initial investment
• B. It allows borrowing to purchase securities
• C. It has lower fees
• D. It provides tax benefits

Answer: (B)

A margin account allows an investor to borrow funds from a brokerage to purchase securities, which is the key feature that sets it apart from a cash account. In a margin account, the investor can use borrowed money to leverage their investment, meaning they can purchase more securities than they could with their own cash alone. This process involves using the securities purchased with borrowed funds as collateral, which can increase both potential gains and risks. In contrast, a cash account requires that all transactions be settled with the investor's own funds, meaning that any securities purchased must be paid for entirely upfront, without the use of borrowed money. This fundamental difference is crucial for investors to understand, especially when considering their risk tolerance and investment strategies. The other options relate to aspects not primarily distinguishing a margin account. For example, initial investment requirements can vary, fees depend on specific brokerage policies rather than the account type, and tax benefits usually do not differentiate between account types in significant ways.

A margin account allows an investor to borrow funds from a brokerage to purchase securities, which is the key feature that sets it apart from a cash account. In a margin account, the investor can use borrowed money to leverage their investment, meaning they can purchase more securities than they could with their own cash alone. This process involves using the securities purchased with borrowed funds as collateral, which can increase both potential gains and risks.

In contrast, a cash account requires that all transactions be settled with the investor's own funds, meaning that any securities purchased must be paid for entirely upfront, without the use of borrowed money. This fundamental difference is crucial for investors to understand, especially when considering their risk tolerance and investment strategies.

The other options relate to aspects not primarily distinguishing a margin account. For example, initial investment requirements can vary, fees depend on specific brokerage policies rather than the account type, and tax benefits usually do not differentiate between account types in significant ways.