How to lend someone money safely

Lending money to family or friends can be a delicate, but not uncommon, situation.

A recent study on the money habits of UK adults revealed a significant proportion still rely on the 'Bank of Mum & Dad' where their parents regularly provide financial support in times of need. The results showed that some people required support for day-to-day living costs such as utilities, groceries and credit card bills. While other popular reasons were to fund large purchases like weddings, home renovations or vehicles.

While you might want to financially help a family member or friend, it's crucial to take a formal approach to the transaction to protect both parties.

We are a firm of solicitors that advise and draft personal loan agreements between individuals, and so wanted to share some considerations that may help you navigate the process of lending money and minimising the potential risks involve.
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Open and honest communication.

Begin with a conversation with the borrower to understand their current financial situation and the reason for the loan. Don't be afraid to ask specifics of why they need the amount along with how and when they foresee that they will be able to pay it back.

If the borrower isn't clear on these points, then you might want to give them some time to consider further and get back to you with the details. As vague promises of repayment 'one day' or when they are 'back on their feet' won't be useful for either party.

You should also be transparent about your own financial capacity and expectations. Specifically, how much you are willing to loan and that while you may be able to afford to lend this amount, you can't afford to lose it. Consequently, this is why you will require them to sign a legally binding loan agreement.

If either party are uncomfortable with committing to a written contract, it might be best to explore alternative solutions to help.

The goal of these informal conversations is to gain an understanding of each other's position and both be comfortable moving forward to formalise the points discussed.
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Formalising a loan agreement.

Verbal agreements are unreliable. A written contract that documents the terms of the arrangement that is signed by both parties should be used. This not only provides evidence of the loan but also removes any ambiguity regarding what has been previously agreed.

The written contract should document all aspects of the loan and repayments, including what happens in the event of a default (non-payment). Some of the major clauses in a loan agreement typically include:

• Full names and addresses of the lender and borrower
• The exact amount to be lent and when this will be provided
• Any interest that the loan will attract (further points to consider below)
• A repayment schedule or the date when the loan will be paid back in full
• Consequences of late or missed payments and what constitutes a default on the loan

If your discussions with the borrower haven't gone into this amount of detail, then now is the time to confirm these points. After this both parties should then be ready to have the terms of the loan documented and signed.

It's at this point that you should consider instructing a solicitor to draft a formal loan agreement based on the terms agreed.

You do have the option of drafting a document yourself or using a generic template loan agreement from the Internet. As generally any written document that details the terms is better than none.

However having a bespoke loan agreement drafted by a solicitor, that is based on your requirements and legally addresses all necessary points is strongly advisable.
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Charging interest on a private loan.

Charging interest on a loan to a friend or family member can be a grey area. Many lenders don't even think about charging interest when the loan is to help someone that they know, but it's something that you should seriously consider.

Lending a significant sum comes at a cost and risk to a lender. The cost is what you will lose not having the money in your own savings account earning interest. The risk is always that you may not be repaid in full by the borrower.

Therefore, you may wish to consider charging the borrower a fair rate of interest on the loan similar to what you would earn keeping the amount in a (risk free) savings account. This rate will certainly be less than a commercial lender would charge the borrower, so there are still clear advantages for them.

The final benefit on charging interest is on a legal point. As when a lender requires interest on a loan, the borrower and the Court, are unlikely to consider the amount being provided as a gift.
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What is the best way to loan money to family or friends?

Lending money to someone close to you requires careful consideration and a professional approach.

As a lender you shouldn't be rushed into loaning money without clear terms being agreed, as you need to protect both your financial interests and your relationship.

A solicitor drafted loan agreement can provide this crucial protection and clarity. Allowing you to financially help the person in need while minimising the risks involved.
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Require a private loan agreement drafting?

Our solicitors can draft a bespoke personal loan agreement for you from just a £150 fixed fee.

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