Use caution lending money to family, friends
Deiwy Cruz recently celebrated the first-year anniversary of Net Plaza Café Internet, a business he opened with his two brothers.
Despite the economy, Cruz said his company is growing and adds he's not all that concerned about the credit freeze.
Cruz’s mother loaned him $45,000 interest-free, to help launch the business. He later borrowed an additional $10,000 from an uncle to keep in an emergency fund.
“If we ask the bank to borrow money they are going to charge us a lot for the interest,” said Cruz.
The bank wanted $17,000 on the $10,000 loan to be repaid in five years, but Cruz’s uncle only wants $13,000. So Cruz wrote up a document with his uncle and had it notarized.
“It’s going to be more easy for us and more easy for him to trust us that we are going to give him back the money,” says Cruz.
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Kevin Drakeford, a corporate and business attorney, said while a big benefit of borrowing from family and friends is negotiating reasonable interest rates and repayment options, there are a number of drawbacks. You're not having Thanksgiving turkey with your loan officer as you are with your Aunt Sue.
“You could jeopardize your relationship. It could cause all sorts of havoc especially if for whatever reason something doesn't work as planned,” said Drakeford.
Both parties should exercise caution before agreeing to anything.
Drakeford said the borrower should be honest about how the personal or business loan will be used and repaid. If it's for a business, the lender should ask for a business plan and do the necessary homework to understand all the risks.
Most importantly, for both the borrower and the lender put everything in writing.
“Benefits such as outlining the terms, this way there is no disagreement or misunderstandings,” said Drakeford. “So terms can be the amount the monthly payment, the interest rate, late fees, penalties, things of that nature. They might have a provision in there in case you need to delay payment for a little while.”
Drakeford recommends notarizing the document, like Cruz did. For an additional level of protection, you might want to work with a lawyer to hammer out the details of the agreement, so everyone is on the same page.
Lastly, if you're the lender, you should not loan money unless you can afford to lose it.