It’s a situation many people face sooner or later. You hit a financial rough patch, and you reach out to a family member or friend for a loan, or you’re on the receiving end of that request from a loved one.
If you’ve been a borrower or a lender, you know firsthand that lending money between family or friends is as tricky a relational circumstance as you can experience.
So what’s your philosophy about lending to family and friends? How can you best manage the transaction? What are your expectations—and what happens if they aren’t met?
Your goal is to be thoughtful and not automatic in granting a request—and to consider a process you might put in place.
If you choose to loan money, here are six important questions:
Can you afford to make the loan?
Do you have financial reserves to extend a loan? And does making a loan put your own financial security at risk?
Who else needs to be in on the decision—a spouse or partner?
What need are you meeting?
There are plenty of reasons to consider lending money; an emergency like a sudden illness or death, a personal tragedy or natural disaster or other extraordinary case. Maybe you would be willing to help with an ongoing need like rent, utilities, or groceries.
If it matters to you what the money will be used for, it’s fair to ask the borrower. As you ask that question, you might discover other, non-monetary ways you can help.
Will the loan put your relationship at risk?
Loaning money to a family member or friend might mean you watch every purchase that person makes. This is especially true if you already have questions about a borrower’s money issues or you worry about enabling bad behavior.
Be honest with yourself if you don’t have the personality or emotional wherewithal to do this. If you foresee the loan ruining a relationship, you’re better off saying no right at the start.
What are the terms?
- How much will you loan?
- Will you charge interest?
- Do you expect repayment? If so, by when?
- How will the borrower prioritize payback to you over other needs or wants?
When a loan or an aggregate of loans are for a larger amount, terms become more complicated. You’ll need to check with your tax preparer, because loaning a significant amount requires a carefully crafted document. Without that document, you as lender could incur a tax liability.
What happens if the loan isn’t repaid?
Are you okay if you don't get some or all of the money back What will you do as the clock ticks? Would you be forward enough—and creative enough—to suggest new terms of repayment? How will you prevent your relationship from dissolving if the money is never paid back?
Can you say no?
It should be a huge warning signal if you feel you can’t say no to a request. After all, you’re not a bank. This only works well as a voluntary arrangement.
A request might be the occasion for hard conversations about money, especially if you’re lending to a family member.
Key questions for lenders:
- What alternatives exist for meeting your family member or friend’s need?
- Do you have the personality to loan money to a loved one?
- Will you require loan terms in writing?
- How will you maintain your relationship with the borrower if the loan isn’t repaid?
Gotta Have It Now! Wow!
More than eight in 10 people report they would lend money to a family member in need. One-third of all people would lend money knowing they wouldn’t get repaid—American Consumer Credit