Borrowing from family or friends

Debt Management Basics

Print Subscribe

debt

Borrowing from family or friends

Table of contents

Ch. 1: Understanding your debt

Ch. 2: Using equity to consolidate debt

Ch. 3: Reorganizing finances

Ch. 4: When to seek debt help

Ch. 5: The bankruptcy option

The idea is not to try to create a legally binding document. You are simply putting the arrangement on a formal footing. This very basic process can make both parties more comfortable with the whole arrangement. It is a sign of respect, and it impresses upon the borrower that this is not a gift, not something that can be ignored or shrugged off later, and that repayment is definitely expected.

Know the tax laws

If the loan is for less than $10,000, it will probably escape the attention of the IRS. But if your loan is for a significant amount, make sure you understand the tax and other legal consequences, particularly if you die before the loan is paid off. The IRS considers loans that are forgiven as taxable income.

Give lenders something tangible

Specific collateral for lenders will ease concerns and ensure that they don't lose everything if things don't go well. In addition, if you are borrowing a large sum, the terms should include a fair interest rate. If your dad has to pull the money from savings, he's losing that interest for the duration of the loan. You should also make sure there is an ongoing paper trail, including a loan agreement, proof of repayment and plenty of receipts.

Dangers of borrowing from family

Shakespeare wrote that loaning money to a friend is a good way to lose both friend and money. You must consider how the relationship would be affected if something goes awry. Should you be unable to repay the amount, how would your relationship suffer? What hardships would you inflict on the person making the loan? Could the loan cause a rift in the family? Family members -- not just the relative advancing the cash, but others -- may be resentful.

Also, be prepared for a "no." Your relative or friend may not be in a position to loan you cash -- or just may not want to. You need to be prepared to handle a negative answer with grace and understanding.

Jennie L. Phipps, Pat Curry, Dana Dratch and Amy Fleitas contributed to this story

Related Links:

Related Articles:

Bankrate.com's corrections policy

Posted: May 1, 2006