The Smart Way to Lend Money to Family

As  people experience unemployment and decreased work hours, the likelihood of family members needing financial help may increase.

Done right, lending money can be just the lifesaver relatives need to get back on their feet —  strengthening the ties between you. Done wrong, disputes can arise on whether the money was a loan or gift — causing lasting harm to the relationship. Problems are not uncommon.  A survey by Bankrate last year found that more than one-third of people who financially helped a friend or family member reported that they ended up losing money or suffered damage to their credit score or relationship.

If you plan to financially help an adult child or other relative, review these tips to maintain transparency and family harmony: 

Don't lend more than you can afford to lose. Even if borrowers have the best intentions, it's possible they won't be able to repay you. By limiting the loan to an amount you can comfortably live without, your finances won't be jeopardized if the money isn't repaid.

Keep it businesslike. You might be saying "loan" and your relative hears "gift." To avoid misunderstandings, write the loan terms — such as the amount, any interest to be charged and repayment schedule — in a promissory note that both of you sign.

This documentation also will come in handy if the borrower defaults and you want to deduct the bad debt on your tax return. (You'll also need to document your efforts in order to collect it.)

Know the rules. Putting the transaction in writing also makes it less likely that the IRS will assume the loan was a gift — something that could require you to file a gift tax return if the amount exceeds $15,000 in 2020. The IRS doesn't require you to charge interest on family loans of $10,000 or less. But for larger sums, each month the agency publishes a minimum amount of interest that must be assessed on new private loans, depending on the length of the loan term. The IRS posts these "Applicable Federal Rates" online each month.