We’ve all heard the saying — money and friendship don’t mix. But even if you recognize the danger of lending money to a friend (or relative), it can be hard to look the other way and ignore someone’s plea for help. This person could be behind on her rent or car payment, and you might be her only hope.
Ultimately, only you can decide whether to lend money to a friend. If you decide to offer help, here are five rules for a smoother, problem-free transaction.
1. Only Give What You Can Afford to Lose
It doesn’t matter how badly someone needs cash, never lend money you need for bills. The recipient can promise to repay the loan in the near future, but there are no guarantees.
If she’s having financial troubles today, who’s to say these problems won’t carry into the next couple of weeks. The decision to lend money can affect your personal finances. She might be unable to payback funds before your rent or mortgage is due, and you could end up paying these bills late. Late payments can result in late fees and a damaged credit score.
2. Know the Purpose for the Money
Ask the person why he or she needs the loan. This can seem like an intrusion question, but you have every right to know why someone needs money, and you should make a decision based on the purpose for funds. Borrowing cash for a car repair or medical expense is completely different from borrowing cash to purchase the latest iPhone or a new pair of shoes.
3. Make It Official
Regardless of whether it’s your best friend or your coworker, make sure you have a written agreement so there are no misunderstandings. You have to make your expectations clear. You may expect the person to repay every cent of the loan, yet she thinks the money was a gift. The agreement should include specific details, such as the loan amount, repayment terms and interest, if applicable. Make a photocopy of the agreement and give the person a copy.
4. Require Collateral
If you want to help someone, but you’re not 100% confident in their ability to repay, ask for collateral. Let’s say a friend or coworker needs $200 until payday. Only write a check if she agrees to hand over a personal item of equal value. Don’t forget to mention the collateral in the written agreement. You’ll return the item when the individual repays the loan. Asking for collateral can be slightly awkward, but it’s a small request in comparison to what the person needs from you.
5. Can You Trust the Person?
Seriously consider this person’s pattern. Does the individual have a history of borrowing money and never repaying funds? Does this person repeatedly make poor financial choices? You work hard for your money, and you should only lend money if you trust the person to repay funds and use the cash wisely. It doesn’t matter what sob story the person tell—don’t make an emotional decision. If your gut says it’s a bad idea, follow your instincts.
Lending money can help a friend or relative get ahead financially. However, you should know what you’re getting into before going into your pocket. Everything might work out if your friend repays funds as agreed. But if she takes the money and runs, your friendship may never be the same. No amount of money is worth losing a friend, so make sure you understand the risks.
Is it ever a good idea to lend money to a friend, and why?
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