Lending money to a friend or family member can be scary, especially if you assume that the reason they asked you for it was because they were refused by a bank. When you are refused a loan by a bank or a private lender, it is because you have had financial problems in the past or are currently in a difficult situation. This makes your friend or family member a high risk borrower. However, that does not mean that you can not help that person who is important to you.
Here are some truths you will need to consider before making such a loan and then what rules and agreements you will need to make to ensure you do not get in trouble.
Choose the right cause
There can be a multitude of reasons why an individual would need to borrow money. On the other hand, not all of the reasons are necessarily good financial choices. And this is especially important if it’s your own money. Here are some examples of situations where you can rest assured that you will really help and that your money will not be wasted.
- Invest in a new business or to help develop an existing business
- Provide a down payment for a mortgage
- Helping someone with big medical expenses or during and after an illness
- Help someone after a divorce or expensive legal procedure
- Support an individual who has recently immigrated to a new country
Once you have decided to take action, it will be time to carefully plan the details of the transaction and then sit down together to discuss it. Even if you trust this person completely, it is important that both understand the expectations and the exchanges. Better to be prepared and sleep rested, than constantly questioning and spend sleepless nights.
Plan and be prepared
1. Lend or countersign?
Everyone has their own opinion on countersigning, but the reality is that the risk is entirely on you in both cases. If you lend the money, there is a possibility that you will not see it anymore, and if you countersign and the individual defaults on his payments, the responsibility for the entire loan falls on your shoulders. The big difference is that if you cosign and you and your friend / family member are unable to make the payments, this will be reflected in your credit report and you could suffer as this will lower your rating. This decision should be taken at the expense of your own financial situation, and should not prevent you from helping a friend in need.
2. Negotiate a reasonable interest rate
This conversation will certainly not be the easiest, mail it is very important to have it and take it seriously. Since the risk will rest entirely on you, you are strongly advised to ask for interest, just as a bank would do. Get ready for your friend to be surprised – it’s possible he has not considered this extra expense. If this is the case, explain to them your side of the thing; as you make a great effort to help them, it’s okay to ask for a little contribution from them too. Choosing the right interest rate will depend on the situation and who you lend money to, but a good rule of thumb is to offer a rate lower than a bank, but higher than the rate that you could get if you left the money in your bank accounts. Also do your research regarding gift taxes depending on the amount you lend, it is possible that both parties must declare on their tax returns.
3. Write a contract
This step is definitely the most important part of the process. Having a written contract will protect both parties, it is for the good of the borrower too. If this step makes you uncomfortable, maybe you are not ready to lend money to a friend or family member. Think of how much more uncomfortable it will be if this one lags behind these payments. If that’s your case, try to blame someone else, like your accountant. There are several online resources that will help you draft a contract, but make sure that all the relevant information includes the loan amount, the interest rate and what will be the remedies if a payment is not made. matures.
4. Establish a formal payments agreement
Establishing a payment plan is just as important as the written contract and should also be included in this document. Decide between you when and how payments should be completed and what the consequences will be if a payment is made late (ex: extra costs, fines, etc.). These details will be up to you depending on the person to whom you are providing the loan. Checks, a PayPal account or automatic bank transfers are your best options. If you decide to use the checks, make sure you make a copy and keep a record in case there are misunderstandings about payments made in the past.
Lending money is a serious thing that should be considered with care, especially when good friends and close family members are concerned. In these cases, you are better off dealing with this transaction just as a bank would, and this will help prevent problems so that you and your borrower can maintain your relationship.