Family Business: Perspectives on Lending Money to Family

Mon, Apr 9, 2012

Financial Advice

Personal finance advice is usually comprised of lessons in budgeting, best practices in credit card usage, and saving strategies. As important as these concepts are, in the real world, personal finance is often much messier and more complex than most advice columns make it out to be.

Courses in personal finance will warn you about high interest rates, for example, but can’t truly capture everyday challenges like lending money to family members.
Most of us, in a hypothetical situation at least, would argue that it is very important to keep family close, and to help them in any way possible. But once a situation arises that forces us to realistically consider lending money to a family member, we are typically conflicted and hesitant about moving forward.

Let’s consider the options you have if a family member asks you for a loan:

There’s nothing inherently wrong with lending money to family. The problem is that a lot can go wrong when loaning out money, in ways that you don’t necessarily expect. If you do decide to help a struggling family member — and you should always consult with your spouse, if you’re married, before you decide — it is crucial to know that it will probably not go the way you planned.

Now, a general rule of thumb when lending to family is that you should not make a loan if you can’t afford the amount you’re loaning as a gift. In other words, if you aren’t prepared to lose the amount altogether, it probably isn’t wise to loan it out.

After evaluating your own financial readiness, make sure to structure the loan. Failing to do so is what causes so many family loans to go south. Don’t feel guilty for setting up interest rates and term requirements, or for wanting a specific repayment schedule; it’s your hard-earned money that you’re lending out, and it’s appropriate for you to want to protect your family and security.

Lastly, discuss the reason your family member needs the loan. It is important that both parties understand that this is a one-time, last-resort loan for a specific purpose and not a never-ending line of credit for a person who is perpetually irresponsible with his or her finances.

You might be surprised at how quickly your attitude about lending money to family can change once a family member asks for money. The famous words of Gordon Gekko from Wall Street come to mind: “The point is, ladies and gentlemen, that greed, for lack of a better word, is good.”

Loaning money often has unpleasant effects on the personal relationship between lender and borrower, which is why nobody likes dealing with banks. The simple fact is that you are not a bank, and you probably don’t want to risk the harm that could befall you if you lend money out to your family.

Personal finance is just as much about emotion as it is about money. When you make a loan to someone, you immediately feel that the two of you aren’t on equal footing, making it very difficult to be fair and unbiased when thinking about the borrower. If things go wrong, it will be hard not to resent it.

The best thing to do when a family member asks for a loan is to either give them the whole amount as a gift — a one-time gift — or offer advice instead and not make the loan. Money puts a strain on any relationship, and often does irreparable damage, so it’s usually in everyone’s best interest to leave loans to banks.

Maria Rainier is a freelance writer and blog junkie. She is currently a resident blogger at First in Education where she writes about education, online colleges, online degrees etc. In her spare time, she enjoys square-foot gardening, swimming, and avoiding her laptop.

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