12 Things to Keep in Mind When Lending Money to Family/Friends
Lending money can be a profitable business but not when you lend money to family and friends. Things change when lending money to your near ones. You are at a loss (most of the times) and your acquaintances are at profit.
This is because there will be no commission or interest (in most cases). But lender i.e. you are at a loss since this is a informal transaction with no assurance that the money will be returned. Forget about the relationships that are broken many a times because of the repayment issue.
This article offers a series of tips and things to keep in mind when lending money to family and friends.
Before Lending Money
Whether it’s a stranger, a relative or a friend, there are a number of things to keep in mind when lending.
(1) First, it’s important to do some research on your future debtor. It’s important to know why the person in question has come to the conclusion that he or she wants to borrow money.
(2) Another important question is to get collateral. It is essential to know that you are going to get your money back. Because otherwise it makes no sense to lend money in the first place. Don’t you want your hard earned money back?
(3) A good way to present guarantee is to have someone else present themselves as a guarantor. This way you will know that, if the borrower cannot repay the debt, there will be someone else who can make the effort to repay the loan.
(4) You need to analyze status of your personal finances. It is important to know whether you are able to lend money.
(5) Even if the relative or acquaintance is very near, you should not hesitate to ask if you’re going to get your money back and when. You have the right, because the money is yours. You may have taken out money from your savings or retirement investments.
(6) Another point to analyze is the degree of closeness to the person who is borrowing money. Even if you have money available, it’s not good to lend money to just anyone. You should evaluate whether the person is trustworthy.
(7) It’s also good to know what they’re going to use the borrowed money for. Even if it’s family and friends, you have a right. If you know why they have come to borrow money, the decision will be easier. Borrowing money to buy a Play Station is not the same as paying rent. Keep that in mind.
(8) Make it clear that it’s a favor. From the beginning you have to make it very clear, even if they are your relatives, that what you are doing is a favor. The person in question has to be clear that you are giving up this money for a while and that you are taking a risk.
(9) As far as possible, it’s not a bad idea to ask for an advance or signs of willingness to pay. It is always better if they can pay off the debt early.
(10) Following the advice above, determine a payment date. Setting a day helps to maintain respect between the parties.
(11) It is important that the person who is a family member or friend does not exceed the payment date. If the rules of the game are clear, do not miss this date. Think that if you don’t, you could lose a lot.
(12) And finally, establish formal conditions. If necessary, sign a document as if it were a contract. They don’t have to be crazy conditions. These must be in accordance with the will of both parties.
Importance of Signing a Contract
Think that if you make a bank transfer or withdraw large amount of money from the bank, it is a signal that you are going to lend money to someone. Remember that all this is recorded, so you don’t want to have problems in the future, when paying taxes.
For the reasons stated above, even if they are relatives, you should make a contract when lending money. Among the positive things about making a contract is that, in this way you will legally stipulate the conditions, so that, if the repayment payments are delayed and so on, you will have at your disposal a legal document that accredits it.
What to put in the contract?
In the contract that you are creating, it is good that the following points are included:
(1) First, the place where the loan in question is made and the date it is made. Then, the details that identifies the two people. The full name, identification, marital status, home address and city should appear between these details. It is important to make clear who the lender is and who the borrower is.
(2) Why the loan is granted: The contract must make it clear what the purpose of the money borrowed will be. The reasons must be sincere.
(3) Amount: The total amount to be lent must also be expressly stated in the contract.
(4) The form of payment is also important to specify in this document. For example, money can be delivered by hand, by bank transfer or by cheque.
(5) Return deadline: Indicate how long the borrower has to repay the debt and how he is going to do so. That is, if you do it all at once or split the payment (it can be weekly, monthly or quarterly, for example).
(6) If there is interest, it must be marked on the contract and specify what percentage it is. One of the advantages of these documents is that, if they exist, you can fix whether there will be interest or not.
(7) Clauses: As a lender, you have the option of including a number of clauses. These may contain related sections in case of breach of contract or non-payment.
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This article has been written by Chandra Mehta.
Chandra is a seasoned banker with 35+ years of experience in banking and financial services industry. He’s a retired banker and has served as Chief Manager and Assistant Vice President in State Bank of India/or its subsidiaries.
He has authored many articles on this site (allonmoney.com).