Friends and Family Loans
If you need finance for your business or some other reason, you could just take out a loan from the bank, reach out to individual investors or try out crowdfunding. But you could also borrow money from your friends or family.
In this article, we are going to discuss the pros and cons of borrowing money to and from family and friends.
If you want to invest in the growth of your business and your family or friends would like to borrow your money, this can be done with a so-called ‘private loan.’ Nobody will check your Credit Score, and they will get more interest then on their savings account (if you pay decent attention that is), so it looks like a win-win situation, right? Yes, but there are also some risks with borrowing money from family. Because what if the new business plan fails and you can’t repay the loan? Think about how much more painful it will be to justify against your dad or sister compared to your local bank manager.
Think well before you decide to borrow money from your family for your business. Write down the pros and cons and make a well-informed decision. Talk about the risks together as well. What if you cannot repay the loan immediately? Will it endanger the Panama cruise they planned for years, or even worse, their mortgage payments?
Furthermore, it’s always wise to involve multiple family members in the loan to avoid misdirected looks later on. Maybe your sister wants to start a business for which she needs to come capital. Would your parents still have excess funding to help her too? Are your family bonds strong enough to withstand financial setbacks?
Write down agreements
Have you assessed the risks and decided to go for a private loan from your family? Even if you know somebody so well, don’t forget to write down the agreements together in a contract. In doing so, both parties know exactly what they are up top and what they can expect from each other. Always make sure to write down at least the following:
– The details of the lender and borrower
– The amount of money loaned
– The interest both parties agree upon
– The duration of the loan
– The agreements regarding paying off the loan
– The agreements regarding payment
– The consequences of paying off the mortgage doesn’t go according to plan
– The possibilities to cancel the loan
– The opportunities to pay off the loan earlier or quicker than agreed upon
– The opportunities for taking other investments as well
Keep the agreement(s) in a safe place. If you borrow money for your business, even in the case of private loans, you have to be able to show this to the taxman might you ever get inspected.
It is essential to think well about the interest percentage on loans. Why? Because if you agree on a too low-interest portion, the taxman will call it a gift, and you have to pay tax on it. For this reason, it’s in both parties’ interest to conclude a competitive interest percentage. The height of this ‘competitiveness’ is dependent on the risks attached to the loan. It would be a smart move to see what interest rates commercial loan providers charge and then go for the lowest offered interest rate, just to be safe.
Always keep in mind that a private loan from your family or friends can come with a lot of extra pressure. You could agree with your family or friends to keep them up with the latest developments in your business, for example, just to keep them up to date. You could do this by allowing them to attend meetings or, if you don’t want that, send them a monthly newsletter. Doing so will prevent you from never having to tell it’s not going well with your business, and you aren’t able to pay off the loan (in time).
Alternative ways of borrowing money
If you instead don’t borrow money from friends and family, you might want to go to the bank and get a personal loan instead. Alternatively, you could search for other forms of investments like crowdfunding or business angels. For this you can read our article about crowdfunding:
Loaning money from friends or family pros
By writing down the agreements well, a sort of personal loan is created, but against affordable interest rates
No credit or financial background checks are being done. Your credit score also isn’t affected by taking a private loan.
Cons of loaning money from friends or family
You take the risk of getting into personal conflicts about the loan if you won’t be able to pay it back in time or any other dispute arises.
There is a chance certain agreements aren’t being kept by either side of the party, resulting in family or trust issues.
It could be quite easy just to ask a friend or family member for a loan. Yet many people will strongly advise against it. You could get into severe family or trust issues if anything goes wrong, and chances are quite big that that will happen at least somewhere during the repayment period of the loan. We would advise you to borrow money without all the hassle and just compare the vast selection of available loans against affordable interest rates and terms through the loan providers listed on our website. Doing so will not only save you money, time, and headaches but also won’t hurt your credit score.