The pitfalls of lending to family and friends

So you brother is struggling to make his car payments, or your niece just needs some more money to tie her over to the end of the month. Sound like a familiar story? It sure did to us. At the start to the month we had two situations pan out that we are going to share with you today. 

*For privacy reasons names are omitted*
Chris and I had been talking for a while on how to approach the situation with family member 1. When they got married just under 2 years ago Chris lent them some money but they took this to be a 'gift'. About a month later he lent them some more money this time they had acknowledged that it was a loan. We decided to let the first money go (though a very generous wedding gift, we wrote it off as that) but then the second lot we didn't want to write off as it had been clear to both parties it was a loan. 

We finally contacted Family Member 1 and asked what his plans for repayment were and that we were willing to accept instalments.  The response shocked us, they said they thought we were in no rush and that us doing this would make things really tight for them as they have a child. This situations highlights how easy it is for communication to break down over something like this as further disagreements have stemming from this have lead to a rift in the relationship. 

The second situation involved Family member 2 booking a holiday last minute with his girlfriend and in-laws and being completely unable to afford it. He asked for help with his bills, but the reason he can't pay is because of his holiday. Our first thoughts were of frustration, knowing that if we lent we would be essentially funding his holiday.

These situations occurring really reminded us of why we now both feel it is not appropriate to be lending money to family. There are just too many pitfalls to justify it. Below are just a couple of reasons why family and lending don't mix well and what other alternatives may be better.

1. It isn't always clear if it is a loan.
Usually lending between family and friends is very informal and unlikely to comprise of any written documentation. This can lead to misunderstanding as to whether the money given is in fact a loan or simply an outright gift.

2. No set terms
It is not unusual for there are not set minimum monthly payments, no set time period, no interest and no collateral. The informal nature and lack of terms can lead to the borrower feeling far more relaxed about repayment than the lender may expect. By not loaning in a matter comparable to a bank its is realistic that the borrower may not also behave how they would when borrowing from a bank. If a loan is open ended it can mean it is not a priority for the borrower to pay it back especially as there are no 'real' repercussions i.e bad credit score. It can also mean that you are not on the same pages as to what a reasonable time frame would be.

3. It puts a strain on a relationship
It makes situations awkward, it causes frustration and annoyance, and can lead to the breakdown of relationships. The dynamic changes, there is a burden that is owed yet you might not be treated in the same manner a professional leder would. This can impact your overall relationship and how you view each other especially if one feels the other is acting unreasonably.

4. Recovering assets is challenging
Not being paid back is not an all that uncommon situation, and you don't hold the same power as a bank to act quickly and cheaply. You are unlikely to have taken collateral for the loan. Recovering assets via county court is a time consuming process and though pretty efficient it would be better to avoid the situation altogether.

5. Enabling a habit
Once you have lent once, it is not unlikely you will be asked again. But is isn't a great position to be in if you are constantly lending especially if the loans are not interest bearing. Each time you continue to lend you are enabling a bad money habit. You are a quick fix not a long term solution. Try finding ways that can help rather than facilitate, consider why they are finding themselves in this situation perhaps they don't know how to budget or have a gabling problem.

So what to do instead of loaning money? Offer something more practical and not furling a money issue. For the brother who is going on holiday we have offered to work with him on making a budget and debt snowball. Whilst with the other brother cash gifts no longer occur instead individual items are bought I.e nappies so that we know it is going on needs not wants.

What experiences had you had with lending to family and friends?