Is It OK to Ask Family for a Loan?

In an ideal world, borrowing money from your family would be a slam dunk—it seems like the simplest solution to pay down a high-interest debt or fund a large purchase. But even the closest of families can become strained when a money issue goes south.

There are a lot of considerations when you’re asking a family member to borrow money—primarily, you don’t want to harm the relationships. If the terms aren’t clear and if there’s a failure to repay, you don’t want your family member to resent you and question every other purchase you make—such as a vacation, or showing up to Thanksgiving with some spiffy new shoes.

There are, to be sure, advantages of borrowing from family. There are no forms to fill out, low or no interest, flexible payback terms, and chances are, no legal retaliation or repossession of your assets for failure to repay.

But there are right ways and wrong ways to approach it. Like any financial transaction, you’ll want a contract that outlines the date and amount of the loan, how often and how payments will be made (cash, check, in person, or through a bank or online payment system?). You’ll want to cover what happens if there are missed payments and what, if any, collateral is involved. Will there be an interest charge? There’s also an IRS gift tax catch: If the loan is above a certain threshhold, the lender must charge a nominal interest rate. Also, make sure that for every payment—especially if it’s in cash—you get a receipt or confirmation of payment and keep it in a ledger.

You’ll also want to offer the relative the option to pay the debt directly instead of passing money to you, so they’re sure it’s settled and you’re not getting charged extra interest or fees.

In addition to keeping family dynamics intact, borrowing from a bank or other lending institution can bring other benefits and risks. You might also be eligible for a zero-interest loan for a period of time through a credit card (but make sure you’re fully aware of the terms in case they skyrocket before you can pay off the balance). And a bank loan may affect your credit score, depending on how timely your payments are.

Why Do You Need the Money?

Was your home destroyed by a natural disaster and you’re awaiting an insurance check? Or did you dig a hole of consumer debt by shopping for things you didn’t need? You’ll probably also need to provide a plan for paying it back – this is why a bank wants to see recent paystubs and financial statements.

One way to inspire confidence in your family member lender is by showing a plan for how you’ll raise the funds to pay them back. So that might mean taking a side hustle, asking for a raise, getting a roommate, cutting expenses, or any other ways to generate extra cash quickly.

If you’re asking for a substantial amount of money to fund a business, the Small Business Administration offers these tips for asking family for cash:

1.     Choose a family member who understands business and the risks he or she is taking.

2.     Have a solid plan in hand.

3.     Don’t shoot for the moon---ask for the minimum amount you’ll need for each phase.

4.     Decide if the lending relative will get a share in the business and what their role will be, if any.

If you get sick or lose your job or are, for whatever other reason, unable to make payments, a bank may be able to work with you for a period of time and let you miss payments while interest still accrues, but a family member might be more flexible and understanding than an institution.

One thing you may get instead of a loan from your family is the offer to help you understand budgeting and financing better, so you can lift yourself out of debt and better manage your money in the future.