Over the years I’ve heard from dozens of readers who have lent money to friends and family members, only to have become outraged when the deal goes sour. The problem is they write to me after they’ve made the loan and have been waiting months, even years, for repayment, without success, hoping I can wave a magic wand to get their money back.
I always tell these readers that I wish they’d written to me before they lent the money. Doing things right from the start makes all the difference in the end. Here’s how:
1. Accept reality
Lend only the amount of money you can afford to give as a gift. Don’t tell your potential borrower this, but know in your heart that the chances of you ever being repaid in full are fairly slim. That’s a fact of life. There’s a reason this borrower is coming to you and not to a bank or conventional lender to borrow money.
2. Promissory Note
This is a legally binding document that when signed by both parties creates a contract. A Promissory Note lays out the details of repayment including total amount to be repaid, due dates and penalties if the terms and conditions are violated. Search for “free promissory note” online to find a form you can simply print out and fill in the blanks.
3. Reasonable interest
It is right for you and the borrower, that you charge a fair rate of interest. If your borrower balks at being charged interest, blame it on the IRS, which says you must charge an interest rate that is at least as high as the IRS’ Applicable Federal Rate, which is set monthly. Currently, that rate is 2.08%, and changes monthly.
4. Require collateral
You can require that your borrower “secure” this loan by pledging something of value that he or she owns, which has a perceived value of at least the amount of the loan. That could be a Rolex watch or a TV. Whatever it is, take possession of it. Hold it in lieu of repayment.
Include this statement of collateral in your documentation with a clear statement that once the loan is repaid, the collateral returns to the borrower. And should the borrower default, the collateral becomes yours to liquidate for repayment of the loan.
5. Formal repayment plan
Because you do not want to become a debt collector and deadbeat chaser, agree on a repayment plan up front before you hand over the money to your borrower. Do this while everyone is friendly and anxious to make this work. Let the borrower come up with a plan to which you can agree.
A great idea is for the borrower to arrange automatic deductions from his or her bank account to yours. Now you won’t have to wonder if the check is in the mail or if you’ll need to make yet another awkward phone call.
First published: 4-28-13; Revised & Updated 7-21-19
Question: Have you ever lent money to a friend or family member? Or were you the borrower? How is that working out for you? Click here to join in the conversation!
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