Money is an emotionally charged topic that has torn apart many relationships. Once you have decided to lend money to friends and/or family, you can read my advice on this topic here. Refinancing can be the solution for many people to get back on track financially.
Loan proposal (private):
Just like in Las Vegas, don't risk more than you can afford to lose. Lending money to friends or family is gambling, so never give a loan if it will put your own financial situation at risk. But even if the intention is good, none of us knows what tomorrow will bring. Only lend money if you are comfortable with the idea that you may never see it again.
Think about why borrowers need money. Do they want the loan because of an emergency such as job loss or unexpected medical bills, or because they have made poor spending decisions? Will it be used for something that will improve their lives, such as a down payment on a home or education?
Don't dip into your retirement account. Borrowing money is not a good idea if it means you have to risk your retirement savings. Protect this nest egg as if you were the mother hen, and don't let any of your chicks touch it.
Involve your spouse/partner in the decision. Communication can not only save you money, but it can save your marriage or relationship. If you and your spouse cannot agree on taking out a loan, it can put significant strain on your relationship.
Evaluate the impact the loan will have on other family members. If you lend money to one child, you may set a precedent. What if other children are not as responsible, and thus the risk of them repaying a loan is greater? Be prepared to deal with the potential conflict such a situation may create within the family.
Don't be an enabler. If the borrower is engaged in a destructive lifestyle and is usually in financial hot water, be emotionally supportive rather than financially supportive. A better use of the money would be to pay for professional counseling to get to the root of the problem, as bailing them out of their current crisis will not solve the underlying issues.
Treat the loan as a business agreement. After all, you have now become the banker, and bankers take things seriously. Once you have agreed on the amount of the loan, discuss the interest rate, term, due date, and late fees. To figure out monthly payments, including interest, consider using a loan calculator, such as the one found at www.bankrate.com.
Put all the terms of the loan in writing. Many websites offer free promissory note forms. Consider having the documents notarized, as this will give you more legal recourse if the borrower defaults. While putting it in writing is smart because it makes the borrower more accountable, be aware that it will not guarantee that you will be repaid. It is simply a layer of protection.
Be upfront about any legal steps you may take to collect an unpaid loan. Jointly reviewing a "worst-case" scenario ahead of time can go a long way toward preserving a relationship if things start to go south.
Refrain from judging the borrower's spending decisions. When someone owes you money, it's hard not to look at how they spend their money, especially if they are behind on payments to you. Fixating on their frivolous spending can drive a wedge between the two of you. Ask if their plans to get back on track with payments are justified, but resist the urge to grill them about where the money has gone.
Think long and hard before agreeing to co-sign a loan. When you co-sign a loan, you agree to repay the loan even if the borrower defaults. And, you may not be notified until the loan is several months past due. Such a violation will negatively affect your credit rating, as well as that of the primary borrower.
Consider requiring collateral for large loans. If you are lending money for a car, insist that you be listed as the lien holder on the title. If the loan is for a down payment on a house, have the loan drawn up with you listed as the second mortgage holder. If the borrower defaults, any equity remaining after the primary lender is paid off will go toward paying down your loan. If you are going to require collateral, it is wise to have the loan handled by an attorney.
Check for possible tax implications. Tax authorities take issue with loans that charge little or no interest, and may require you to pay gift tax. Before lending more than $10,000, talk to your tax accountant to ensure you are protected. If the borrower defaults on the loan, document your attempts at collection so that you can write off the loan.
Consider what will happen if you die before the loan is repaid. Include a statement in the agreement that covers such circumstances. Will the loan be forgiven, or will it still be owed to the estate? Will the same remaining terms be in place? If it is owed to the estate and the borrower is an adult child, will the amount be deducted from your child's share of the inheritance?