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Five rules to follow when lending money to family

A friend of Kolkata-based Kaushik Roy, a businessman (top), borrowed cash from him for a supposed medical emergency and never repaid; Pune-based Chandan Singh, a finance professional, became a guarantor for a  ₹50,000 loan his friend had taken and ended up paying  ₹1 lakh to the bank from his own pocket. (Photo: Arijit Sen/Mint)Premium
A friend of Kolkata-based Kaushik Roy, a businessman (top), borrowed cash from him for a supposed medical emergency and never repaid; Pune-based Chandan Singh, a finance professional, became a guarantor for a 50,000 loan his friend had taken and ended up paying 1 lakh to the bank from his own pocket. (Photo: Arijit Sen/Mint)

  • Ensure you don’t affect your own financial health, and learn to say no, when needed
  • Assess if your income is enough for you to lend and not worry about cutting down your own expenses

Some things that are easier said than done—one of them is giving the advice to steer clear of lending to your friends or family. Tarun Birani, a Mumbai-based financial planner, advises his clients to stay away from lending to friends and family, but sometimes finds it hard to say no to his own relatives or loved ones when it comes to monetary assistance. “More often than not, it’s difficult not to help when you see a friend or family member in financial stress," said Birani, founder and director, TBNG Capital Advisors.

Lending to friends and family is an emotional decision, and that’s why it can be tricky. We spoke to financial planners to draw on their own experiences as well as those of their clients to narrow down on five rules that can ensure you strike the right balance and don’t affect your own finances in the bargain.

assess your finances and the borrower

With the economy slowing down, instances of individuals asking friends and family members for loan have been on the rise, according to financial planners. “Our clients are getting requests from those who have lost their jobs, or whose salaries are getting delayed, or businesses that are in dire straits," said Malhar Majumder, a Kolkata-based financial planner and partner, Positive Vibes Consulting and Advisory.

While it may be difficult to refuse lending to a loved one, especially if the person is well-qualified and has only recently met with difficult circumstances, remember that lending to a friend or family member is about money that you can afford to lose. So ensure that your disposable income is enough for you to lend and not worry about cutting down on an impending expense or missing the next SIP. “It can be the money you have kept aside to purchase something for yourself or for your home, which can be postponed by a few months, or money available for other discretionary spends," said Majumder.

Also, help friends or relatives only if you can trust them entirely. A friend of Kolkata-based businessman Kaushik Roy, 49, borrowed cash from him under the pretext of a medical emergency and never repaid the loan. “I knew him through work. He was smart, witty and likeable and had earned my trust. He told me that his mother needed medical care and I loaned him 15,000," said Roy. Later, he came to know that this friend was selling the illness story to borrow money because he was about to leave the job and move to another city. Roy never heard from the friend again, but the incident became a life lesson for him. He decided to never again step out of his comfort zone to do a financial favour to anyone.

Don’t touch your investments

A lot of times clients are convinced about lending but seek advice on how to go about it. Typically, financial planners advise them to refrain from lending if they don’t have spare cash.

“We show them through calculations how withdrawing from their important life goals can impact their future. They could be putting their retirement at stake or children’s future to help someone today," said Majumder.

If you absolutely must help and don’t have spare cash, have a threshold for lending. If you must dip into your emergency funds, it is better to withdraw from the savings parked in your bank account rather than liquidate the investments made in fixed deposits or debt funds. Also, remember that given the current situation, the threat of job or business loss is very real.

Learn to say no even to loved ones

However uncomfortable it may be for you, it is essential to toughen up and say no to a loved one in certain circumstances.

To start with, if you think you don’t have enough disposable income and savings or you find your own job or business situation unstable, don’t lend.

Next, make sure you lend only for emergencies. So if someone asks for money to finance a lifestyle need such as buying a car or even clearing credit card dues, which usually mount when the individual is unable to manage his finances properly, you should not give in.

You can also avoid lending to the same person a second time. “Helping someone once is fine. If he needs money again, there could be something wrong with the way he manages his finances. It’s best not to lend twice," said Arnav Pandya, a Mumbai-based financial planner.

Lenders can politely decline, saying they have other financial commitments, suggested Pandya, who does not believe in lending or borrowing money from friends or relatives. “Once you turn down a few people, the word gets around. Others get to know you won’t lend," he added.

Don’t be shy to ask for repayment

Typically, borrowers keep loans from family and friends down on the priority list for repayment, hoping that they would understand that it would take time to get the finances on track. It’s also not given importance as it usually comes without interest and a repayment timeline.

If you had a certain time frame in mind at the time of lending, don’t be shy to ask for repayment. That’s why it is important to talk about repayment right at the start, when you are lending. Lend only if you are comfortable with the timeline, and once the deadline is close, don’t be shy about reminding the borrower.

Whenever friends borrow from Mumbai-based Chetan Tandel, a software developer, he emails them the amount to document the loan. The 35-year-old subtly tells his friends that he is forgetful, and the email is only for his records. “Many times, friends forget small amounts. They may have the intention to repay, but after a few months, it slips their mind, especially if the loan amount is small. Documenting through email has always helped," said Tandel.

Also, be honest about your financial situation. A person close to you would understand and may not take things for granted.

Never become a loan guarantor

You may choose to encourage your loved one to take a loan and become a guarantor to that yourself. While lending has its perils, becoming a guarantor can also have issues.

Chandan Singh, 45, now works as a financial planner in Pune. But a decade ago, he was an employee at a financial services company, when a close office friend asked him for a loan. Singh didn’t have enough money, so he arranged a bank loan for his friend and became a guarantor. After a few months, the friend quit the job and also stopped repaying the loan and the lender started sending notices to Singh. Initially, Singh didn’t take this seriously, but eventually he realized that the bank could initiate recovery proceedings against him. He started looking for the friend but couldn’t trace him. For a 50,000 loan, Singh ended up paying 1 lakh, including interest and penalties, over four years.

Seeing friends and family in financial trouble can be distressing. But before you help someone else, ensure your own financial health. Learn to be honest about your financial situation with your loved ones, and remember that it’s not necessary to lend just because you can. Every time you make money available on tap, you are letting someone take you for granted. If you are still willing to lend, be mentally prepared that the money may not come back to you.

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