Loans between family and friends can sometimes be a blessing. Yet many times, they don’t go as planned. A recent survey by Bankrate found that loans between loved ones ended badly almost half of the time.
Before you ask to borrow money from a loved one or you agree to lend money to a relative or friend, step back and take an honest look at what could go wrong. When people you care about are involved, there can be a lot more than money at stake. It’s important to understand that lending money isn’t an emotional decision; it’s a financial one.
Potential Problems for the Lender
When you loan money to someone, you have to accept the possibility that the person won’t pay you back. Even if your loved one has good intentions, things could go wrong that are out of his or her control. Job loss, illness, and car problems are just a few examples of unexpected issues that may pop up that might slow down or prevent your loved ones from repaying a loan.
Besides the possibility that you won’t get paid back, there’s a risk of damage to the relationship. Imagine your loved one falls behind on payments. Things could get awkward or even worse. You might feel taken advantage of, betrayed, or even resentment towards the other person. In the same survey mentioned above, 35% of people who helped someone out financially say the decision cost them money, damaged their credit score, and ultimately hurt their relationship.
Questions to Ask Before Lending Money to Friends or Family
- Can I afford not to have access to these funds for a period of time?
- If my loved one doesn’t pay me back, will the lost funds make it difficult for me to meet my financial goals?
- How will I feel toward this person if he or she doesn’t repay as promised?
If your budget doesn’t have room for lending money to family or friends, you should turn down the request. Yet if you can afford to give your loved one a loan (and you believe in your heart that it’s the right thing to do), consider the following approach. Loan the money without expecting to get paid back. That way, there are no harsh feelings if the loan doesn't end up getting paid back.
Whether you tell your loved one that the money is a gift or whether you accept that it’s a gift in your heart, this may be the best way to protect the relationship. Then, if your loved one comes through and pays you back, it’s a bonus. If you aren’t comfortable accepting the fact that you may never get the money back, you’re better off saying no to the loan. It's important that open and honest communication is happening between both parties.
Potential Problems for the Borrower
It can be tempting to turn to a loved one when you need to borrow money. After all, if your friend or relative agrees to help you out, the process is generally much faster and easier than borrowing money from a lender. Plus, if you have bad credit, you might feel like a friend or family loan agreement is your only option. Just because it may be much faster borrowing from someone you know, that doesn't make the risk any less.
Serious problems can occur when you borrow money from friends and relatives. You might put your loved one in a tough, and even awkward position. By asking them to loan you money, you’re putting them in a situation where it may be hard for them to say no, so they accept the offer and give you money, even if they may not have wanted to. You could also damage a meaningful relationship — one which no amount of money could replace.
Questions to Ask Before Borrowing Money from a Loved One
- Am I confident I can pay back the loan?
- How much can I afford to pay back per week or month?
- If my loved one has unexpected expenses come up and needs the loan repaid early, could I find a way to pay them back sooner than planned?
You may think a loved one can afford to lend you money without hurting their monthly budget, but the truth is you don’t know the whole story. No matter how well-off your loved one may seem financially, they don’t have the same resources as a financial institution.
The Bottom Line
In the long run, your best bet is to structure your budget so that you can build an emergency fund. An emergency fund can help you avoid the need to borrow money from a bank or loved one in the first place. If you find yourself constantly asking loved ones for money, it may be time to reevaluate your budget and see if you can either decrease your expenses or increase your income.
Looking for resources? The Budget by Paycheck workbook gives you tools to take control of your finances, build an emergency fund, and make a plan to afford the things that matter most to you.