Friendly Loans: When Not To Lend To Friends & Family

Brian Bristol

Brian Bristol

Published on: 24 June, 2022

Updated: 27 June, 2022

Empty hands

Helping someone out in a time of need is often a great decision! From lending a helping hand to feeling good about making a difference in someone’s life, supporting others is one of the joys of life. 

However, life isn’t always sunshine & rainbows. We’ve all been there - a loved one, colleague, or friend may have gotten themselves into a tough spot. They might need some funds to turn their financial situation around or may need a hand with a financial emergency, but regardless you might be in a position to help and are on the fence about if you should. Most of the time, the answer is yes - you should help someone you care about in need, but sometimes, it’s better not to lend money to friends and family…we know, a controversial take. 🍵

So when is it best to do the hard thing and just say no to lending money? Let’s discuss.

Situation #1: When There’s a Conflict of Interest

Female boss looking at phone

If you are a person in a position of power, such as a manager, teacher, doctor, or entrepreneur giving out a personal loan to someone you are “in charge of” can get complicated quickly. In such cases, a loan could be a bad idea if you are lending to someone who is a student, subordinate, or trainee. Whether it be a business loan, a paycheck advance, or other agreement, there can be a perceived (or actual) conflict of interest, favoritism, or even abuse of authority when lending under these circumstances. 

Some important tips to remember when in this situation:

  • Loans between supervisors and employees, or between higher ranking and lower-ranking co-workers may be illegal or frowned upon in your industry (i.e., military, government employees, etc.).
  • Having or not having money can shift the power dynamics in any relationship. So consider the closeness of your relationship (i.e., lending to a spouse vs a distant 3rd cousin) and determine whether or not this shift will affect your day-to-day interactions.
  • Personal liability may mix with professional liability. Lending to an employee or lending to a patient turns a professional relationship into a personal one potentially opening the door to legal, ethical, or moral contentions.

Situation #2: The Reason for the Loan is Unethical or Immoral

Internet scammer

Friends and family aren’t likely to scam you, but they may be the potential victims of a scam or have ill intentions regarding the purpose of their loan. Ironically enough, some may not even realize they are a victim of a scam or acknowledge that they are looking for money for all the wrong reasons. 

How do you spot these warning signs?

Well, this matter is tricky, but here are some thoughts to consider if you’ve got a hunch that there may be something fishy going on with your ask for a loan. 🕵️

High Pressure

This is a common element of a potential scam or ill-intent transaction. If your friend or family is being asked to a financial decision quickly with no time to consider other options, then the reason for this loan may not be a good one. 

What are typical motivations in these cases?

  • The reason for the loan is to take advantage of a “too good to be true deal” that ends very, very soon;
  • Someone is in dire need of cash for bail or travel money in a foreign country;
  • The loan amount is larger than you might expect, and you are not receiving sufficient reason as to why the sum of money is so significant;
  • There is some kind of “legal problem” that requires immediate payoff;
  • The person you want to loan money to has a questionable history of unethical behavior;
  • There is a level of vagueness or hesitation to talk about repayment terms.

Skeptical man with laptop

A Drastic Change In Behavior Or Circumstances 

Sometimes you just aren’t sure about loaning your money and you don’t know why. If something just doesn’t feel right, it’s good to ask questions. 

What can contribute to this feeling of uneasiness about lending money? Sometimes it’s just that -- a funny feeling. But other times there are noticeable warning signs. Have you noticed unusual or unexplained behavior by your friend or family member asking for a loan? Do the circumstances surrounding the ask seem too much like a coincidence?

The need for a quick loan, one time, isn’t that surprising. But in the scenario you are asked a  second or third time for a loan, consider asking more questions. You may not get a straight answer right away if there’s an embarrassing problem motivating the request for help, but it could open the door to a real conversation about what’s going on.

Compassion and tact are key. You may have to let the answers come in their own time, but if you don’t feel right about making a loan, don’t do it. 🧡

😊Tip: Be compassionate when digging deeper into the reasons someone needs a loan. Even if you aren’t willing to help financially, being there for someone emotionally can go a long way as well.

Situation #3: Legal Issues

Business owner consulting lawyer

After all the warnings above, you might be left wondering whether it’s even legal to loan money to a friend or family member. Family loans are usually completely harmless as considered by the IRS or uncle sam. Unless you are planning to loan a large sum of money at a 0% interest (check out why that’s a bad idea from a gift tax perspective) you usually don’t have to consider any legal hurdles to help out someone in need. 

However, if going through this process in a unique way, for example:

  • You are own a business or are lending to a business;
  • The loan is associated with a bankruptcy or other extreme financial situation;
  • There exist personal finance liabilities like an outstanding lien, divorce, or death;

You might want to do some background research or consult with a lawyer about your specific matter before moving forward.

It is not illegal for you to lend money to friends and family.  

But even with this fact in mind, the law may have a say in specific matters. If you want to charge interest on your loan or want your loan agreement to be legally binding you’ll need to consider the legal side of this transaction.

You Should Still Help When You Can

We’ve all heard the “never lend money to friends” quotes and sayings. From complicating relationships to broken promises, we know these conversations are tough so it’s understandable that you may have hesitations about lending money to family and friends. Even with these risks in mind, we can all agree though that helping out those closest to you can really change lives, and when done well, the feeling of fulfillment from such a benevolent act is unmatched.

Make sure the next time you ask yourself, “should I loan a friend money” consider the reasons behind the ask, make sure you get a written agreement in place, and organize your finances in such a way that you can afford to lose this money in case it becomes impossible to get your money back.

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