It’s happened to all of us at some point.
A friend, a cousin, a sibling or a child asks for a loan. Sometimes, the loan is minor and easy to make. “Sure, I can lend you a few bucks for dinner after the game.” However, there are also instances when several hundred dollars (or more) are needed. The first question you ought to ask yourself in these sort of situations isn’t “can I make this work financially?” it’s “what’s the real cost of making this loan?”
Avoid The Strain
Lending money to friends or family is a delicate operation. Even Shakespeare advised, “Neither a borrower nor a lender be,” to Hamlet’s audiences. This recommendation holds true for us today. You can ask almost anyone to share an example of a time where they lent money to a friend or family member. More often than not, their memory of the incident is less than positive.
It’s typically never a good idea to loan money to friends or family members. Aside from the financial strain unpaid loans can cause for lenders, outstanding debt between friends or family can lead to bad blood and awkward family get-togethers. (http://www.savingadvice.com/articles/2013/08/28/1017991_reasons-not-to-lend-money-to-friends-and-family.html) Asking for money (and lending it) puts at risk your relationships and sometimes your reputation.
Digging A Hole
Too often, family members or friends are approached for money because the person who needs it is expecting the sort of leniency that a financial institution wouldn’t offer. (http://money.msn.com/family-money/how-to-say-no-to-a-personal-loan) If someone can’t get a loan through their credit union or bank, it usually means their financial situation is already challenged.
It’s your prerogative to ask why they’re requesting the loan and how they intend to spend the money. Ask your friend (and yourself) if the purchase is truly necessary, rather than blindly loaning your cash without considering the consequences. Since there are no guarantees and no protection for either the borrower or the lender in these situations, it’s far more advisable to direct your friend to a trusted financial advisor, instead.
If you absolutely cannot turn your friend or family member away and still want to help, help them move in a different direction. Encourage them to speak with a financial specialist at a trust financial institution about other options, such as a secured loan. Depending on the collateral available, this could be an opportunity to set up a low-interest loan with structured payments, and all with knowledgeable guidance for the lend-ee. It works in your favor as well. Though you’re providing assistance, you’re also removed from the payment process.
Another reason to work with a financial institution for these kinds of situations is that without the proper paperwork, you may have difficulty filing your taxes. (http://learnbonds.com/lending-money-to-family/) Loans made without the proper paperwork, even outside of an institution, can make far more trouble for whoever is making the loans than it’s worth.
It Is What It Is
The most honest advice I can give about loans between friends or a family member is simple: if you’re going to do it, consider the money a gift. As I mentioned earlier, these seemingly delicate situations can cause enormous amounts of emotional damage. If you feel compelled to lend someone money, do so freely, without any strings attached. There will be no bitterness if the money is never returned and it will be a happy surprise if it is paid back.
Kat's Money Corner is posted on Dollars & Sense every Tuesday. Kat Hnatyshyn, when not blogging or caring for her little one, is a manager with CommunityAmerica Credit Union. For more financial chatter, click http://twitter.com/savinmavens.