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Is It a Good Idea to Get a Family Loan?

Posted April 29th, 2010
by Staff

One of the alternatives that usually comes to the fore as an option when you’re considering a personal loan is the idea of borrowing from a family member. The benefits to borrowing from a family member may seem to be obvious, at least at first. There is the whole issue of reduced hassle, not to mention that you’re likely to get a much better interest rate when borrowing from Mom than you are when borrowing from your local bank.

Still, there are several things you need to consider when taking out a family loan.

Financial issues

For a family loan to be a good idea and for it to work, you need to meet three criteria:

  1. The loan should be a good deal for the borrower.
  2. The loan should be a good deal for the lender.
  3. The loan should comply with local laws as well as tax laws.

If you can’t meet those three financial principles, a family loan isn’t a good idea. You want a win-win situation for both parties in the family loan arrangement. You also need to follow the laws in regard to loan taxes, such as issues of forgiving loan balances or charging too little interest.

Emotional issues

Loaning money to a family member, or borrowing money from a family member, is a hell of a lot more than just a business transaction. If the business transaction part of it goes sour, for example, it can wreck your family’s Christmas get-together. Even if the terms of the loan are followed, it’s possible for one party to lord it over the other, or for other family members to be dragged in.

The key here is to be open and honest about everything. Be clear about your objectives, and make sure both sides understand the agreement the same way.

Put it in writing

The best way to handle a family loan is to use a loan document. Write it out, just like a bank or other lender would If there’s collateral involved, make sure that the loan document actually secures the lender’s interest. Talk to an attorney if you need help doing that part of it.

A family loan can be a blessing, or it can be a hornet’s nest just waiting to cause trouble. Take the necessary steps to reduce the potential problems caused by a family loan.

Photo via Kevin N. Murphy

Categories: Advice



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