Lending money to friends or even borrowing money from friends is a tricky situation to be in. We’re going to share some tips to make this pain-free.
Using short-term finance is everything we’re against here at The Debt-Free Community. A good recommended alternative is to knock on the doors of your friends and family.
The question is though: How do we manage this sensitive situation? After all, you’ve enjoyed many great memories together and now this happens.
How to borrow money from friends
It’s easy to borrow money from a friend to pay bills and other debts, provided you actually do your homework first. Don’t take this situation lightly. Even if it’s just a few hundred dollars, you’ll want to make sure you’re doing the right thing by them.
I recommend following these guidelines:
1. Have real documentation in place
What you’ll want to do is have an actual loan document in place. While it’s not necessarily a legal document in place, it’s more than just a handshake between people.
Go and create some basic terms of the agreement. This will include:
- The total loan amount
- Interest that has to be paid
- Frequency of repayments
- Any penalties for missed payments
We would recommend that you simply stick to the repayments. If your friend has been kinda enough to lend you money, then don’t tarnish the relationship. An option is to create scheduled payments from your bank account into theirs.
2. Aim to pay off the loan early
You can surprise your friend that you borrowed money from by repaying the loan early. Not only is this going to keep you on great terms but also gives you a significant advantage if you need to borrow money again.
This doesn’t mean you need to slave away, but if you can pick up additional work on weekends or evenings, then this can really help. They will see that you’re a person of your word.
3. The loan must have interest
While many people are nice to each other and will gladly lend money without interest added on, we recommend that you propose that the loan has an interest rate attached. Why? Because an interest-free loan is a gift and you’re taking a risk.
After all, no bank in Australia is going to give someone an interest-free loan. For personal loans, the rates are 10% to 17% while payday loans can be around 30% which we don’t recommend.
Given that you have a friendship, we recommend choosing an interest rate in the 5% to 10% range. The lender (your friend) gets to earn a return on investment while you have the satisfaction of knocking you’re helping them out, and they’re helping you too!
4. Only the friend who’s lending can negotiate
If you’re the person who wants to borrow money from a friend, then they really have all the power. Without them, you’re probably not going to achieve anything and might have to do a payday loan (bad idea).
Let’s say they offer $3,000 AUD while you really need $8,000 to replace your car. We would recommend that you simply accept the $3,000 for now and look at other options too. Do you have another friend that you can borrow some money from?
You can’t negotiate the principal amount of the loan between friends and you can’t negotiate the interest repayments either. That is, unless you’re the person lending the money.
5. Avoid the common borrower red flags
There are certain red flags to look out for if you happen to be that person lending money to a friend. These can include:
- Have they had debt collectors come knocking recently?
- Do they have safe and stable employment, or can they get another job ASAP?
- What is the state of their house and car? Is it clean or simply one big mess? (Messy homes are a tell-tale sign of someone failing at more than one thing)
- Has anyone told you something about them that you should know?
- Look through their Facebook and Instagram feeds for anything that might spell disaster
Often your friend has probably been declined a loan from a bank before, which in itself is a red flag. They might have several debts that they’re trying to pay back at once.
6. Consider alternative borrowing options in Australia
Long before you ask your friend or family member for a loan, look at some other options. Are you taking out a loan to pay off existing debt? If yes – you might qualify for a debt consolidation loan where you will be able to save money each and every month.
A good option is Peer-To-Peer lending services like Prospa. These guys help people create a better return on their money than the bank will give them while allowing you to access cheaper interest rates.
Can your boss pay a bonus early? Some might be open to the idea if you’ve proven yourself at work.
Can you sell some of your used stuff on Gumtree Australia instead of borrowing money from a friend? That is often the best idea to raise some quick cash today.
Another good one is merely creating a good personal budget each and every month. Likewise, consider the gig economy with opportunities to drive for Uber right on our fingertips.
7. Remember that it’s still a friendship
Your friendship has probably been nurtured over a number of years. It’s a very strong bond that you have with someone which shouldn’t be tainted through taking out a loan between parties.
This makes it complex, which is why we recommend proper loan documentation. As long as repayments are done on time each month, then the details of the loan don’t need to be discussed. In other words, you can just enjoy social time together.
Often relationships are ruined because someone wanted to borrow money from their friend, and unfortunately, it wasn’t paid back on time or even paid back at all. Stacking a financial relationship with a social one can be a tricky situation to manage.
If you’re the borrower, then consider this article to be a code of ethics that you’ll want to abide by. You can either print this off or remember the details.
You will need to have some documentation created. Some mere messages between yourself and your friend is not enough to create a legitimate loan.
If they’re kind enough to lend you money, you should be motivated enough to get your ducks in order. They will trust you more and be more willing to help you further in the future, financially or otherwise.
Many people are interested in debt-free living. Get in touch with us today and let’s see if we can assist you!