Here are some advantages a family loan carries: Yes, family loans carry risks, particularly for the lender, but they also can prove beneficial for both parties. Is the loan for a business opportunity, a student loan or a car that provides transportation to a job? All of these things should be considered before lending money to family. To avoid defaulting, ensure the borrower has a reliable source of income. “However, in this situation, it is important to know beforehand if the lender is willing to sue a member of their family or simply absorb the financial loss and move on,” he says. The lender can outline the legal options in the event of a default. There are a few options to consider if the borrower defaults, but they are limited, says Nabity. It’s important to make clear to the borrower that the money being lent is a loan and that it needs to be repaid. Talk to the borrower, see what their situation is and talk about the term of the loan and the number of payments to be paid-then outline it in the contract. It doesn’t hurt to be slightly more flexible with the loan repayment plan,” Nabity says. Because this isn’t a fixed bank loan with a strict repayment plan, there is flexibility. When setting the repayment schedule, it’s important to look at the needs of the borrower. In October 2020, rates ranged from 0.14% for loans of three years or less to 1.14% for loans of more than nine years. If the loan is larger, the AFR is incredibly low right now. If you’re lending $10,000 or less, you aren’t required to charge interest for tax purposes. Minimum rates generally only apply to loans larger than $10,000. This is called the applicable federal rate (AFR), which the government sets every month. The lender needs to take into account their tax strategy and should be aware of the minimum interest rates for family loans set by the IRS. Talk to the family member and figure out an interest rate that is both affordable to the borrower and fair to the lender,” he says. “Consider the loan as what it is: a loan. “Usually, these loans are taken because banks are charging high interest rates, which means the borrower can’t afford bank loans,” Nabity says.īut it’s important not to treat the family loan as a gift. “Have an attorney provide guidance so it’s a sound agreement between both parties,” Nabity says.
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