When you have more money (or are thought to have money) than any of your relatives, you are the person to whom your family members will go when they need a loan. It is much easier to ask a family member for money than it is to grovel at a bank, especially since relatives usually feel more of an obligation than financial institutions. You don’t run a credit check on your brother or ask for two recent pay stubs from your daughter, so you are the most likely candidate.
Lending money to family members is a risky business. Not only do your relatives feel comfortable asking you for money, but they also feel more comfortable paying you back late, if they ever pay it back at all. Furthermore, it is difficult to ask a relative to sign a contract or a promissory note because it feels too formal for such a casual situation.
Unfortunately, however, lending money is never casual, even when the recipient is a family member. You are responsible for taking care of your finances and you can’t fault anyone else if the deal goes sour. When you continually “loan” money to Uncle Bob and Bob never feels like he has to pay you back, then you are responsible for perpetuating the cycle. You know how Bob is, so you must learn how to say no.
Ask About the Purpose
Too often, we feel obligated to loan money to family members without asking what the money is for. I can understand loaning a few hundred dollars to your daughter so she can pay her rent, but would you feel comfortable lending it to her for drugs? The purpose doesn’t have to be illegal for you to put your foot down, either. Gambling, exorbitant luxuries and paying off other debts are also purposes for which I will not lend money to family members.
If your relative won’t tell you what the money is for, you are well within your rights to decline. You have a right to know where your money is going and to pass judgment on that purpose if it doesn’t meet your expectations. And if your family member won’t tell you, it’s probably something of which you wouldn’t approve.
Suggest Alternate Methods
If you know that your family member is less than trustworthy, you might suggest alternate ways for him or her to get money. For example, credit cards and personal loans are common ways to make purchases when cash flow is stunted, so ask if your relative has considered those options.
Remember, however, that it is in your best interest to hand over the cash rather than to cosign on a loan or credit application. If your family member defaults, you’ll be held liable for the principle on the loan as well as any accrued interest.
Put the Loan on Paper
The next rule of lending money to family members is to get it in writing. You don’t have to draw up an official, notarized document containing the legalese of an acquisitions contract, but it should state the amount of money that changed hands and the terms to which you agreed it should be paid back. Both you and your family member should sign and date it, and you should both keep a copy.
Your family member or peer might balk at the idea of a signed document, but you’re going to have to stand your ground. This protects both of you from any misunderstandings or miscommunications and gives you recourse should your relative refuse to pay you back. I’m not saying that you need a signed contract every time you give a relative twenty bucks, but for loans of more than $100, this is the only smart way to go.
Write a Check
It is never a good idea to give anyone—even a family member—cash for a loan. Even when you have a signed contract or promissory note, you still need a record of the fact that money exchanged hands. You can write a personal check or use a money order, whichever works for you, but make sure to save a copy of the cancelled check or the money order stub.
The only way to protect yourself when lending money to family members or anyone else is to make sure there’s a paper trail. If you attend a session of small claims court, you’ll discover that 90% of dismissed cases get thrown out for lack of proof. Even if you know in your heart that you would never sue a family member, it doesn’t hurt to have some security.