If you’re considering lending money to a family member or friend, you’re probably understandably nervous. Such loan agreements can be risky business, both financially and personally. When a loan agreement between family or friends goes bad, the personal relationship that underlies the loan is often a casualty. Luckily, there are simple steps that you, as a lender, can take to help protect your relationship and ensure the success of your loan contract.
In a loan agreement that involves family or friends, both parties are risking their relationship, but the lender obviously has more at risk given their financial investment. You, as a lender, have several options to help mitigate this risk. First of all, evaluate the situation to be sure you are making a sensible loan by answering these questions:
- Is the borrower likely to be able to repay the loan? - Has the borrower adequately researched and requested an appropriate loan amount for their need? - Have you agreed on a reasonable interest rate and discussed a loan repayment period? - Have you considered loan security (collateral) and agreed with the borrower on what assets (if any) will be transferred to you if they cannot repay the loan? - Have you considered requesting the borrower find a cosigner (someone who agrees to be liable for the debt if the borrower cannot repay)? If you require a cosigner, have you and the borrower agreed on who that cosigner will be?If you’ve answered “Yes” to all of these, then you are well on your way to making a sensible loan agreement. Here’s what to do next:
Step 1: Choose a Loan Agreement Method
Never rely on verbal agreements, and don’t leave anything open to interpretation or argument. Use a service like LoanBack to formalize the loan in a legally recognized loan contract that clearly states all the terms of your agreement. This way, both parties will be on the same page from the very beginning, and the chance of misunderstandings and later disputes will be greatly reduced.
Step 2: Create Your Loan Agreement
Create the loan agreement with the borrower. You can read more about the essential terms of a loan agreement in A Lender’s Guide to Friend and Family Lending. If you choose LoanBack, you will be asked a series of simple questions about your loan terms, and then a legally recognized loan agreement will automatically be generated for you.
Step 3: Create a Repayment Schedule
When creating person-to-person loan agreements, some lenders wish to give their friend or family member “a break” by having flexibility in the repayment schedule or allowing the borrower to pay the loan back “when they are able.” This is never a good idea. To protect your finances and your relationship, agree on a realistic repayment schedule before any money changes hands. With LoanBack, the repayment schedule will be generated with your loan agreement.
Step 4: Track Repayment
Agree with the borrower on one method for tracking repayment. The tracking and repayment status must be transparent for both parties. If you decide to track the loan offline, both parties must be vigilant about saving checks and other documents, recording every payment, and ensuring interest and principle calculations are always up to date. If you use LoanBack, all your loan transactions will be available online for both parties to review and approve, and interest and principle calculations will be maintained for you. LoanBack can also help you set up simple monthly email reminders.
The best way to preserve your relationship and ensure a successful conclusion to your personal loan contract is to make sure you build the loan properly at the outset. Using a service like LoanBack can help walk you through the process of building and formalizing your loan, and will give you the tools to easily track and monitor it over time.
More Information What to do when friends and relatives don’t pay you back - Helium.com