When Lending Money to Friends or Family Members, You’ve Got to Be Cautious

If you lend money to someone, you’re putting your own finances at risk, not to mention your relationship with that person. Here are some steps you should take.

A friend or relative calls. They need money. Or maybe they didn’t call. Maybe you called them. Maybe they didn’t want to admit that they’re struggling but there was a quiver in their voice when they said things were going “great.”

You asked how they were “really” doing and they ended up breaking down and telling you they didn’t know how they were going to make their bills this month without resorting to a payday loan or cash advance.

(Or maybe there wasn’t any call at all because it’s 2018 and everyone below the age of 40 seems to have forgotten that phones are actually capable of making voice calls so whatever the exchange was, it probably happened over text.)

Regardless of how you found out a loved one is having money problems, you’ll want to help them. But lending money to a friend or family member can get awkward quickly. It’s tough to ask them when they’re going to pay you back, especially when you know they’ve already been dealing with money issues.

So how can you lend money to friends or family members without it getting too awkward?

Ask yourself some questions first.

Before you offer to lend out money, it’s important that you take genuine stock of your own financial situation and of how this potential loan could affect you. Here are some questions that Certified Financial Planner and president of Pax Financial Planning and Education, Inc. Natasha Knox (@pax_planning) recommends you ask yourself:

“If for some reason the money is not paid back to me, will that compromise my own financial position? Only lend the money if you can afford for it not to be paid back.

“Is there a clear and reasonable way for this person to pay me back? This one is a harder question to answer, as it requires some knowledge of the finances of the person.  However, before lending money, both parties should have a clear understanding of all of their financial commitments and income sources. They need to have the means to honor their repayment terms.

“What will happen if money is not repaid? Families and friendships are complex, and unpaid loans are a surefire way of causing tension and bad feelings. Could tensions between you and this loved one ripple through the whole family or friends group?

“Why does this person need a loan? If the answer is that they need a loan due to serious money mismanagement or out of control spending, then lending money is not likely to help. The remedy for money mismanagement is education, self-awareness, and support to instill money mindfulness habits. More money or more debt will not help a person with disordered money behaviors.”

Now that you’ve answered those questions, it’s time to hammer out the details.

Work out a repayment structure.

Without a plan for how you’re going to get paid back, a loan can quickly become a gift. And a gift is very nice (we’ll get to that later) but if you want your loan to actually be a loan, you’re going to want to work out a formal agreement.

“In general, it needs to be treated like a business transaction and all parties need to be told that up front,” advised Amy Irvine (@amyirvineadvise), founder of Irvine Wealth Planning Strategies. “There needs to be an amortization schedule, a method of automatic payment, and sometimes even a lien placed on a car or property.”

Irvine shared her personal experiences dealing with this kind of lending, both in her personal life and helping to set up these arrangements for others in her professional life:

“For the agreements that I’ve made with family members it went ‘down’ like this: Yes, we (my husband and I) will help you out by being the ‘bank,’ but we want to treat the transaction in the same manner as if it was a bank. We discussed the terms of the loan—in each case, we backed into what they could pay us each month, then we looked around to see what the interest rate of a loan that long would be. We then had an attorney draft the agreement.

“In one case we were lien holders on the property because that is what they were buying. In another case, we had terms that stated we would meet with them quarterly to review their credit report until the loan was paid off. In both cases, they set up automatic payments from their bank account to our bank account.

“For clients that I’ve helped with this, we’ve done the same exact thing. If an individual comes to me to get my two cents about the transaction, I walk them through how I’ve done it and suggest that laying the groundwork may be awkward up front, but not getting paid back will cause hard feelings, and without clear guidelines, they are setting themselves up for that (I’ve seen that too).

“Money is an uncomfortable topic to talk about, so yes, using a third party that has no emotional attachment is recommended. But the way that I’ve suggested it be presented is something like this, ‘I know this was hard for you to ask of us, and we want to make sure that we show you respect, so we are willing to do this, but we want to make sure that the emotion of the situation doesn’t hurt our relationship, so we want to structure it like a business transaction to avoid any confusion in the future.’

“If I’m involved as the third party, I get into a deep dive of the terms of the loan. If it is because they are having financial difficulties, I suggest they start with a lower payment that increases over time. Of course, each situation is different and the answer depends on the facts and circumstances, but this has seemed to work in the majority of the cases.”

Don’t be afraid to say “no” or to just make it a gift.

Depending on your situation, it may just not be feasible. And if you do have the money to help, it might just be better to shift your expectations.

“The best advice is, ‘Do not do it!’” warned Timothy G. Wiedman, a retired professor of Management & Human Resources at Doane University (@DoaneUniversity). “Having said that, if you lend money to close friends or family members, put together a written promissory note that spells out all of the details—the date of the loan, loan amount, repayment terms, interest rate, etc. And the document should be signed and witnessed. But even then, the transaction can still create problems.

“I once loaned money to a close female friend (who later became my wife), and we put everything in writing to clearly make it a business transaction—rather than a gift. Signing a promissory note did not bother my soon-to-be fiancé; but when her sister found out that I had asked her to sign a written agreement, the sister raised quite a fuss! That Thanksgiving, the dinner table was rather tense—to say the least.

“So I will repeat my initial statement: Do not loan money to friends or family. If somebody is in dire straits, help ’em out. But do not call it a loan, and do not expect the money to be repaid. Do it simply as an act of human kindness. Then, if you are ever reimbursed, it will come as a wonderful surprise.”

Every situation will be different, but it’s certainly good to help your friends or family if you’re able to. Hopefully, this advice has given you a sense of what that process could look like.

Here on the OppLoans Financial Sense blog, we’re dedicated to helping people avoid predatory bad credit loans and no credit check loans. To learn more about how you can protect your financial future, check out these related posts and articles from OppLoans:

Have you ever loaned money to a friend or family member? We want to hear from you! You can find us on Facebook and Twitter.

Visit OppLoans on YouTube | Facebook | Twitter | LinkedIN


Amy Irvine (@amyirvineadvise) is a Certified Financial PlannerTM, Enrolled Agent, and Fiscal Fitness Club of America Financial Wellness Coach with over 20 years of financial planning and industry experience. In 2015, she realized that, although she loved financial planning, she did not love where she was doing it. So in early 2016, she formed her own company: Irvine Wealth Planning Strategies. She holds a master’s degree in financial planning from the College of Financial Planning in Denver, Colorado and a bachelor’s in financial planning along with an associate’s in accounting from SUNY, in Alfred, New York.
Natasha Knox (@pax_planning) is a Certified Financial Planner professional, and the president of Pax Financial Planning and Education, Inc, on the west coast of B.C. in Canada. She teaches her clients how to get off of their financial treadmills, and start living their ideal lives.
After 13 years as a successful operations manager working at two different ‘Fortune 1000’ companies, Dr. Timothy G. Wiedman spent the next 28 years in academia teaching college courses in business, management, human resources, and retirement planning.  Dr. Wiedman recently took an early retirement from Doane University (@DoaneUniversity), is a member of the Human Resources Group of West Michigan and continues to do annual volunteer work for the SHRM Foundation. He holds two graduate degrees in business and has completed multiple professional certifications.

The information contained herein is provided for free and is to be used for educational and informational purposes only. We are not a credit repair organization as defined under federal or state law and we do not provide "credit repair" services or advice or assistance regarding "rebuilding" or "improving" your credit. Articles provided in connection with this blog are general in nature, provided for informational purposes only and are not a substitute for individualized professional advice. We make no representation that we will improve or attempt to improve your credit record, history, or rating through the use of the resources provided through the OppLoans blog.