Do even the smallest amount of research and you will find literally dozens, if not hundreds of articles that will – quite rightly – advise you against ever lending money to friends and family. Lending money to those you love is like playing hot potato with a pinless grenade.
Whilst it is indeed the easier choice to simply offer a firm ‘no’ to all family requests for cash, sometimes that’s just not possible. For whatever reason you may one day find yourself in the position where you feel compelled to lend money to loved ones.
If that day does come then keep these 6 fundamental rules in mind in order to successfully navigate the situation and come out the other side with your relationship in tact.
1. Make sure you understand your relationship first
Before you even think about lending to your loved one you need to honestly assess your relationship. Can it really withstand the strains of a private lending agreement? Can you trust them to pay you back, will they resent you for perceived pressure, will you still need to see each other at parties or family gatherings if the whole thing blows up in your face?
If it’s unlikely to withstand the pressures of such an arrangement then decide against the loan and sit down to discuss viable alternatives.
2. Understand the circumstances before you lend
Whilst your loved one may say it is none of your business what the loan is for - this isn’t strictly true. On the one hand, once you have decided to lend them the money and it has left your hands, it is true you are no longer at liberty to dictate how it is spent. On the other, however, you are well within your rights to find out why they need it before you decide to lend.
If it is a one-off cost or a cost that they couldn’t have possibly planned for, like a broken dishwasher or college enrolment fees, then it’s a situation that is unlikely to repeat itself and is not linked to repeatedly poor financial choices. If, on the other hand, it’s to cover gambling debts or payday loans then not only is it indicative of poor financial habits, but it also means that you are much less likely to see your money again.
3. Only lend what you can afford to live without
This goes for lending in general, not just to family and friends. Always assume that any money you lend out you will never get back. This stops you lending what you cannot afford. Never put yourself in the perilous position of being dependent on your loan repayments to cover your costs.
4. Draw up a contract
This is important for two reasons. Firstly, a personal loan agreement is a legally binding agreement that – in a worst-case scenario – you can take to a solicitor as evidence. You can find simple and legally binding loan agreement templates online for free.
Secondly, by writing the agreement down in black and white it clarifies exactly what the terms of the agreement are for both sides. Memory fades quickly, so having a document you both signed and agreed to works as a valuable impartial tool to diffuse tension later down the line.
5. Know your place
You’re neither bank nor benefactor. If you decide to lend to them then don’t berate them and make them feel bad for their need. Instead, help them make better financial habits that will change their situation one step at a time.
Conversely, don’t make a habit of lending. You are not a bank and this shouldn’t become a permanent state. Similarly, whilst you may both agree to set an interest rate on your loan, your primary objective from this exercise is to help your loved one, not to make money from them. This is not a business.
6. Don’t become their guarantor
Do not co-sign anything with your loved one. This means adding their name to your credit cards or co-signing a loan. By doing this you are putting your credit rating at risk, not to mention your savings. Good intentions aside, if you have any doubt as to their ability to manage money and pay back the loan as scheduled then you should keep your name totally separate.