When a friend or family member is struggling to stay afloat, lending money to tide them over can seem like the right thing to do.

While this can be a big help for them, it’s also important to consider how it will affect you, especially when it comes to your own finances and your relationship with that person.

And while this money may be called a loan, it’s often never paid back. According to Starling Bank, nearly a quarter of the UK population is owed over £1,000, with almost half of them feeling too awkward to ask for the money to be returned.

One of the main things to consider before lending someone money is if you are in the financial situation to do so. A good rule of thumb is to pretend the amount of money you’re lending is a gift. If you never got that money back, would it harm you financially? If so, you should likely opt against lending.

Even though it seems like the nice thing to do, relationships can also suffer from lending money. A study by Bank Rate found lending cash to a friend or family member harmed their relationship with that person over 20% of the time.

I’VE DECIDED TO LEND HOW SHOULD I HANDLE IT?

If you’ve considered the risks of lending and have determined it is the right decision, there’s a few steps you can take to help the process go more smoothly.

First, determine the criteria for this loan. Do you expect to be paid back in full? When would you like your loan repaid, and how often do you expect payments? Making all these requirements clear with the lendee can help mitigate the chance of misunderstanding down the line.

You will also need to decide if you will be charging interest on the loan. If you do charge interest, this will count as income for you and will need to be documented in your taxes for the HMRC.

If any of the expectations you have laid out are not met, you should also have clear consequences in place. This will help act as motivation for repayment but will also give you a clear path of action if the repayments were not to happen.

Once you have made these decisions, it’s imperative they are documented. Even if you have complete trust in the person you are loaning the money to, having documentation on the loan can help keep you clear of any unnecessary complications with the HMRC.

For example, if you loan money and it is not documented, this could be classified as a gift from the HMRC. In the case the lender passed away less than seven years later, this could mean that the money was subject to inheritance tax. Without documentation that it was a loan, it will be hard to prove this agreement. Make sure it is written down and signed, ideally with a witness. If you would like another level of security, you can also get the agreement notarised.

HOW TO SAY NO

If you’re not in the position to offer someone a loan, or simply decide you do not want to, it can be an awkward conversation to turn someone down.

But there are a few ways to make your response a little easier. If finances are tight for you, you can simply explain that to the other party. If you’ve decided to say no for another reason, you can simply say you aren’t able to. There’s no requirement for you to offer an in-depth explanation.

You can also follow up by asking if there are other ways you can help. This might be something like offering to help with their children after school or bringing over the occasional meal. If they are someone who struggles with their spending habits, you can also offer to create a budget with them, if it’s something you and they are comfortable with.

Although it may feel awkward in the moment, it could benefit the relationship in the long run. If you feel they are not someone who is likely to be able to repay you, it can stop the build-up of resentment. And if you are not in the position to afford it yourself, it can prevent unnecessary anxiety in your own life.

GIFTING INSTEAD OF LENDING

If you are in the position to help someone without making your own financial position tight, you may also opt to simply give them the money. Although the money will never be making its way back into your pocket, it can simplify the process.

If you’re gifting, you will not need to create any sort of contract with that person, and you can avoid some of the burden on the relationship which is created by being forced to ask for the money back.

It is important to keep an eye on inheritance tax in this case. If you pass away less than seven years after you gift someone money, that gift may be subject to inheritance tax down the line.

BEWARE OF FINANCIAL ABUSE

If you feel that you are being pressured into giving or lending someone money, you could be experiencing financial abuse. Financial abuse is when someone controls how you spend your money or limits your access to income to take away your independence and make you more reliant. This commonly occurs with partners, family members, friends or caretakers.  

If you think you could be a victim of financial abuse, you can learn more through the government’s Economic Abuse webpage or through organisations like Surviving Economic Abuse.

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