Consider the scenario: You’ve been hit up for a loan by a family member. And you’ve decided to lend that family member some money. Mostly because saying no didn’t feel like a realistic option.
And why not? After all, you love your family, and so when somebody you care about is in a financial bind and asks to borrow the green stuff, it’s natural to want to whip out your wallet. But because you love your family, some would say that’s exactly why you shouldn’t do it.
Of course, you already know the main reasons not to loan a family member money, especially a serious amount: You may not get paid back, and if you struggle to get your cash back, your relationship may crack under the pressure.
But you’ve decided to go ahead anyway and extend some credit. Before you write that check or transfer money to a sibling, cousin, nephew or adult child, here are some strategies you should consider to make sure that when this is all over, you and your family member are still on speaking terms.
— Tell your relative you’ll think about it.
— Look at your own finances before making a loan.
— Get everything in writing.
— Consider setting the debt payment plan on autopay.
[See: 35 Ways to Save Money.]
Tell Your Relative You’ll Think About It
If a relative asks you for a loan, ideally, don’t say yes right away. Tell the relative that you’re going to need to look at your budget first. In other words, don’t loan out money under pressure. Telling your relative that you’ll think about it buys you some time to come up with a kind and creative way to say no, or to talk yourself into making the loan. But, seriously, whether this is a $50 request, $500, $5,000 or more, allow yourself the space to think about this.
Also, don’t be afraid to ask what the money is going to be used for. Chances are, your family member will tell you why you’re being asked for a loan. But if you don’t know what the money is for, you’re well within your rights to ask.
Not scrutinizing the use of the loan is a common mistake that family members often make when lending money to relatives, says Adam Sanders, who is based out of Philadelphia and is the director of Successful Release, an organization dedicated to helping former felons find meaningful employment and financial success.
“When you’re loaning money to family or friends, you need to think of it as a business transaction, at least if you expect to be paid back,” Sanders says. “You need to look deeply into the reasons for why the money is being borrowed and why they are coming to you.”
Look at it this way: While a bank isn’t likely to ask what a customer intends to do with a personal loan, a bank will commonly ask how a business loan will be spent, especially if it’s a serious amount of money. Meanwhile, you are not a bank. Which means that you aren’t obliged to give out a loan, and so it’s reasonable to ask how the money will be spent.
“If you don’t like what you see, you should push back or refuse the loan. People who make poor decisions with their own money are not going to treat your money any better,” Sanders says.
Look at Your Own Finances Before Making a Loan
So somebody asked you for a loan, and you said you’d look at your budget first.
Assuming you weren’t buying some time to think about how to say no gracefully, do that. Take a look at your financial picture and see how lending money to this relative is going to affect you — especially if they take their time paying you back. If you can’t afford to lose this money, you’re taking an awful chance.
“Loans made to family and friends often go unpaid,” Sanders says. “If you’re not in a position to write off the entire loan without taking a significant personal hit, you should consider saying no. Just because you’re family doesn’t mean you need to sacrifice your sound financial management just because someone asks.”
If you don’t feel as if your own finances are sound, that’s all the more reason to decline. After all, if you lend money that your relative can’t return, then you’re both going to be struggling. And then what? You both go to another family member for a loan? That’s not going to be a fun conversation.
Get Everything in Writing
That is, you and your relative need to decide on a plan to get you paid back — and, yes, it should be in writing.
That might sound extreme, but by doing that, it may make everything more organized and business-like.
That’s a suggestion from Timothy Wiedman, a retired management and human resources professor from Doane University now living in Grand Rapids, Michigan. He says that he once loaned money to his girlfriend, and they put everything in writing. And since they got married, we’ll assume this is great advice.
Wiedman suggests putting everything involving the loan in your written agreement: “The date of the loan, loan amount, repayment terms, interest rate, payment due dates and so forth.”
That said, putting everything in writing can make things awkward, Wiedman cautions. Signing a promissory note did not bother his soon-to-be fiancee, but when her older sister found out that he had asked her younger sister to sign a written loan agreement, the older sister raised a bit of a fuss, according to Wiedman.
“That Thanksgiving, the dinner table seemed rather tense — at least to me,” he says.
Consider Setting the Debt Payment Plan on Autopay
Maggie Germano, a financial coach for women who is based in the District of Columbia, agrees that getting everything in writing is paramount when a family member loans money to another family member. But she has an idea you’ll want to attach to the writing plan.
When Germano’s father-in-law offered to pay off his son’s student loans, “so that my husband wouldn’t have to waste money on interest any more,” they did something very smart.
“So they agreed to a payment plan,” Germano says, “and my husband set up auto payments to his father through his bank account.”
He never missed a payment, she says, and he eventually paid off the loan. Meanwhile, they never had arguments or even conversations about the loan because the payments were so automatic and seamless.
While setting up automatic withdrawals to pay off a relative probably won’t work for everybody (especially if the borrower has sporadic cash flow and a bank account balance that often is going into overdraft), it may work out well for a person who does have a steady paycheck.
Having a system like that also inoculates the borrower from being criticized for, say, how they’re spending money while they still owe the family member. If the borrower is paying back the loan every month, then the family member who is owed the money isn’t as likely to grumble if they see on social media that their cousin or parent just bought a new pair of jet skis.
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Update 08/10/20: This story was published at an earlier date and has been updated with new information.