What is Borrowed Capital

Borrowed capital consists of money that is borrowed and used to make an investment. It differs from equity capital, which is owned by the company and shareholders. Borrowed capital is also referred to as "loan capital."

BREAKING DOWN Borrowed Capital

Businesses need capital to operate. Capital is wealth that is used to generate more wealth. For businesses, capital consists of assets — property, factories, inventories, cash, etc. Businesses have two options to acquire these: debt and equity. Debt is money that is borrowed from financial institutions, individuals or the bond market. Equity is money the company already has in its coffers or can raise from would-be owners or investors. The term "borrowed capital" is used to distinguish capital (assets) acquired with debt from capital (assets) acquired with equity.

Borrowed Capital Example

To use an example from personal finance, when a person buys a home, he/she typically makes a down payment. The down payment typically comes out of their own wealth, their savings and proceeds from the sale of another house. The remainder needed to purchase the house comes from a loan from the mortgage company. So, the house, which is now an asset belonging to the homeowner, is acquired with both equity and debt, or borrowed capital.

Typically, debt is secured by collateral. In the case of the home purchase, the mortgage is secured by the house being acquired. Borrowed capital may also take the form of a debenture, however, and it that case it is not secured by an asset.

Sometimes investors use borrowed capital. The upside of investing with borrowed capital is the potential for greater gains. The downside is the potential for greater losses, given that the borrowed money must be paid back somehow regardless of the investment's performance.