There are a number of factors to consider
A survey run by CreditCards.com revealed that 59% of people who lent money or paid for a group expense “had something bad happen.” For 42%, that meant they never got their money back and 26% said their relationship was damaged as a result.
That’s why people need to think carefully before lending money, says Jessica Moorhouse, money expert and financial educator.
“When you loan or borrow money from a friend or family member, it automatically adds an extra layer of complexity to that relationship since you’ve just introduced a new power dynamic,” she explains.
If you decide to lend money, there are some things to keep in mind. Will lending money put a strain on your own relationship? Can you afford to lend the money in the first place without straining your own finances? Will it help the person borrowing the money and will you be OK if you never get repaid?
The answers to these questions will determine whether you should lend money. Even if the loan won’t put strain on your finances or relationship — and you’re fine with not getting repaid — it might still be important to consider how the money will be used.
“If you see someone asking for financial help, but they need help that goes beyond that such as health, addiction and mental health, money may actually not be what they need and may even make things worse or prolong the real problem,” says Moorhouse.
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You may also face tax or legal implications
However, there are situations where lending money could be fine, like a parental loan towards a down payment for a home. This is separate from a gift, which doesn’t have any interest or repayment terms.
The understanding is that the loan will be paid back but Moorhouse also sees some potential tax implications. Depending on the size of your loan and whether you’re charging your loved one interest, you may need to claim the income on your tax return. Or it could be considered a gift, which can also have tax implications.
“It’s important to talk to a tax professional or financial planner before lending any money,” says Moorhouse.
And generally, to avoid trouble down the line, professionals would urge you to formalize the agreement.
“It’s always advisable to get it in writing through a promissory note, contract or other type of documentation. With that said, only you can be the judge if you believe you’ll be paid back or not,” she says.
However, the risk of non-payment remains. If that might present an issue down the road, you might want to consider an agreement that bypasses that entirely.
“In my family, we don’t believe in loans. We only do gifts,” says Moorhouse. “This eases any would-be tension that the exchange of money can produce.”
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