1    Ask Why They Need the Money

 

Knowing why your friend or family member needs the money is important. What one person may view as a good reason for borrowing money may not be acceptable to you. If your friend or family member refuses to tell you why he or she needs the money, avoid the loan.

 

Lending money to someone for something superficial or unimportant, such as taking a vacation or making a non-essential purchase, may not be a wise move. If someone needs money to buy food, replace an old and unusable car, or to pay rent or mortgage, give serious thought to loaning this person the money if doing so fits within your budget.

 

 2    Create a Promissory Note

 

Putting together a promissory note for the borrower to sign is not rude or inappropriate in most cases. If the borrower intends to pay you back, he or she should readily agree. Keep in mind that you must set down the terms in writing to protect your investment and make sure all involved parties have a clear understanding of the agreement.  Otherwise, the lack of clarity may lead to problems later.

 

The note does not necessarily have to be perfect. It can be written out by hand, as long as the information is clearly stated and both parties sign and date it. Having it notarized may be a good idea.

 

 3    Leave Nothing out of the Promissory Note

 

The most important items to cover are the amount of money loaned; a loan repayment schedule, whether the term is a single lump sum in full or a payment plan in increments; the interest rate charged; an agreement as to what will happen if the friend or family member does not repay within the allotted timeframe; and whether the note is secured by any assets.

 

 4    Make Sure You Have a Witness

 

Even if you opt out of having the agreement notarized, have someone else witness the two of you signing and dating the document. Leave a place for this witness to sign and date the document as well.

 

 5    Consider Referring to a Peer-to-Peer Lending Network

 

Some lending networks to consider are:

 

--             Lending Club

--             Prosper

--             PeerLend

--             Perpetuity Direct

 

Lending networks look at the credit ratings of those who want to borrow money. Typically, borrowers are assigned a risk rating, and willing lenders have the opportunity to make a loan to someone who needs it.

 

 6    Keep Communication Lines Open

 

Both borrower and lender need to stay in contact with one another, and the borrower needs to talk to the lender if the loan payment will be late or other difficulties arise.

 

Make sure the obligation is clear to both parties and you go through with whatever consequences were determined beforehand.

 

 7    Don’t Be Afraid to Give Different Rules to Different People

 

If you have loaned money to more than one person, the repayment obligations may be different. Be clear and fair with everyone, but also be able to explain to everyone why one person might have to follow certain repayment rules and another may not.

 

 8    Implement Tough Love

 

One of the biggest concerns with loaning money to friends and family is being taken advantage of. People who know and love you may assume that because you are a friend or family member, you will not mind a late or missing payment. The consequences of a late or missing payment must be clear in advance, and you should be prepared to enforce them.

 

 9    If You Can Afford It, Get a Lawyer Involved in the Beginning

 

By involving a lawyer from the beginning, you can remove some of the guesswork for yourself and will also be sure that the promissory note is legally binding. Involving a lawyer also means having a fair intermediary. If your friend or family member disagrees with part of the note or views it as unfair, you can say the lawyer recommended it and that you only feel comfortable following the lawyer’s recommendations. You can also use the lawyer for collection of repayment and to implement the note more effectively.

 

 10    If You Are Unsure about the Loan, Avoid Making It

 

If you feel unsure or you think repayment is going to be a problem, do not make the loan just because you feel guilty or because you want to help. Follow your instincts.  If you do determine to make it, be prepared financially to lose the money.

 

Additional Resources:

 

--          See this article from The Digerati Life about Lending Club: http://www.thedigeratilife.com/blog/index.php/2009/01/02/lending-club-review-leading-peer-to-peer-lending-network/

--          Review this article on Prosper:

http://www.thedigeratilife.com/blog/index.php/2008/02/21/new-to-prosper-how-to-manage-your-risk-as-a-peer-to-peer-lender/

--          See BusinessWeek.com for another article on P2P: http://www.businessweek.com/investor/content/apr2009/pi2009043_811816.htm