There are very few people or businesses that don't need to borrow money at some point.
Traditionally banks, building societies and credit unions would be the source of funds and the products they offered would require the borrower to agree to various terms and charges. However, this tradition is changing with borrowers frequently now looking towards family, friends and business partners as a loan source.
In fact Aviva's Family Finances Report found that loans from family members or friends had overtaken overdrafts as a source of debt held by 18 to 35 year olds.
Loaning money to someone in need can often be of great help to them. Especially if they are unable to gain credit elsewhere and it avoids them incurring high charges that are associated with payday or doorstep loans.
While you may trust the borrower, be able to afford to lend the money, and have every confidence that you'll be paid back, you should still formalise the arrangement with a written loan agreement.
Agreeing and creating a loan agreement.
Most loans between family, friends and even business acquaintances are made informally and without anything in writing. While this is less than ideal from a legal standpoint, it doesn't necessarily mean that you have no legal options should a debtor decide not to pay you back (see our guide on being owed money without a contract or agreement).
But having something in writing is almost always better than having nothing, so drawing up a loan agreement is the way to go.
A loan agreement doesn't have to be a lengthy or overly complex document but having down on paper what the lender and borrower have agreed will provide protection should the worst happen and the borrower defaults (doesn’t pay back) on the loan.
A starting point in creating a loan contract is to first have an open and frank discussion with the borrower about how and when you want to be paid back. There’s little point in dictating a payment schedule that's unachievable from the outset and both parties need to be comfortable with any arrangement. For example, you may consider:
When you've agreed the amount, how repayments are to be made and the length of the loan, you then need to discuss what happens if things go wrong. Can the borrower accept the potential legal consequences and costs if they can't make the payments?
If at any point you are struggling to find common ground on what the contract should contain, you may need to reconsider lending the money at all. As differing positions at the outset could be an early sign of a potential dispute.
However, if all terms and conditions have been agreed it is time to get them down on paper, ensuring some key legal clauses are included.
At this junction it's also worth considering if you should seek legal advice from a solicitor who can take your agreed instructions and professionally draft the document for you.
Important clauses in a loan agreement.
At the very start of the agreement you should record the full name, address and contact details of the lender and the borrower. If there are multiple lenders and borrowers, all these should be detailed.
Amount to be Loaned
Clearly specify the amount that is being loaned, and to avoid any doubt or potential for error also record the amount in words as you would on a cheque. I.e.
£9,980.50 (nine thousand, nine hundred and eighty pounds and fifty pence)
Term of Loan
Define a period that the amount is being loaned over and when it needs to be paid back by. Even if you don't have a specific date or timeframe in mind, you should always specify a term (48 months) or a date (by 1 January 2022) when the loan should be fully paid back by.
Ideally this term needs to be no more than five and a half years from the date the loan is made to ensure that the debt doesn't become statute barred if you ever need to take legal action to recover your loan.
The agreement should specify what law and jurisdiction it comes under (e.g. English Law, England and Wales). This will be important should legal proceedings ever be required.
The agreement must be signed by both parties and ideally witnessed by an independent person.
Drafting a personal loan agreement.
Once the agreement is drafted you should print two copies, sign them and each party keep one. Only when the agreement is signed should you then actually make the loan which ideally should be via cheque or bank transfer so that you have a record.
All this may seem a little daunting, especially if your loan involves a significant amount or you are unfamiliar with the best way to execute the transaction. So, if you are in any doubt consider instructing a solicitor to draft your loan agreement to protect your position and provide piece of mind.
Catalyst Law are team of legal professionals with over 20 years' experience helping businesses and people with their legal problems.
Follow us on: