Tips on Lending to Family Members and Friends

You may feel a responsibility to help those close to you in financial need. Helping those in need, especially loved ones, can make you feel great, but it can also lead to hurt, disappointment, and anger if the borrower mishandles the loan.

Here are tips and questions to ask yourself in order to help avoid problems when lending to family members and friends:

Can You Afford to Lend Money?

Before lending money to others, you need to assess whether or not you can afford to do so. If you are putting yourself in debt in order to help someone else, then you should not act as a lender. Instead, you can offer help in seeking another source of aid.

Do You Support How the Money Will Be Used?

You should ask your family member or friend how he or she intends to use the money. You may feel better about the loan if you know it is being used for education or basic means, like a car loan or a mortgage, instead of a trip to the Bahamas. These good feelings will help ease the situation should the borrower have trouble paying you back.

Is This Family Member or Friend Responsible?

You should take into account how responsible the borrower is.

• Is he or she working or actively seeking a job?
• Does he or she pay bills on time?
• Do you feel confident that you will be paid back once the means are available?

If you do not feel the borrower is responsible, you could be setting yourself up to be let down. In addition, you may enable the borrower’s irresponsible behavior, which may do him or her and you more harm than good.

Act Like a Bank

If you are lending money, then you are acting like a bank. You should consider using similar tools for lending:

Draft a Promissory Note. If you were to borrow money from a bank, the bank would insist on a contract detailing the terms of the loan. You should discuss terms that work for you and the borrower, type them up as a promissory note, and then both you and the borrower should sign the document.

Determine a Specific Loan Amount. In order to avoid being deemed an open pocketbook, you and the borrower should settle on an exact amount for the loan. Any additional funds should be considered a separate loan with its own contract and loan terms.

Devise a Payment Plan. Just as a bank requires borrowers to make monthly payments on a loan, you should also set up a payment plan. Discuss an amount that is feasible for the borrower to pay each month, and discuss the entire length of the loan, such as 12 or 24 months. Also determine how the borrower will pay back the loan. You can accept monthly checks or set up an account that receives the payments on PayPal.

Charge Interest and Late Fees. It may seem strange to charge interest and late fees to family members or friends, but it may give the borrower an incentive to make timely payments. If the borrower knows the amount owed will keep increasing, he or she may be more inclined to pay the money back on time. You can set the interest rate and late fees at or below standard bank terms.

If the borrower is insulted by you wanting to establish a formal loan arrangement, you may consider offering other forms of help, such as lending a hand at a new business or offering your extra room as a place to stay.

Be Understanding

It can be hard for a person in need to acknowledge to loved ones that he or she needs help. He or she may have feelings of embarrassment and/or shame. You should try to understand, rather than judge, the borrower’s situation and keep loan discussions as professional as possible.

In addition, there may be times when the borrower needs some cushion on the due date. As long as it does not become a pattern, you will want to determine how you can be understanding and flexible as the borrower tries to meet the terms of the loan.

Be Comfortable With Never Being Paid Back

It is possible that your family member or friend will never pay you back. You need to ask yourself if you can accept this and still maintain a relationship with him or her. If there’s going to be a problem, you may not want to lend the money.

However, you may decide that you would like to take that risk, as it is more important to you to help this person than to worry about what might happen down the road. In that case, leave yourself open to the possibility of the loan becoming a gift.

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