If you’re thinking about loaning money to a work friend (or anyone), there are some important things to consider. The most obvious thing, of course, is what happens if they don’t pay you back. And how do you preserve the relationship if that actually happens.
But there are other sticky issues that may get attached to the deal. Issues a contract can help. What if they don’t make payments on time. Or start to miss a few. And what if you realize the two of you have a different picture of what’s expected? If your loan is to a coworker this can really sour your workday!
As much as you’d like to leave it to trust and friendship, a formal contract is the way to go. It can save a lot of headaches and misunderstandings. And a written agreement can clearly spell out all the “what ifs” that might blow up down the lending road.
If you’re thinking “I can’t ask a friend or relative to sign a contract!” rest assured that’s a normal reaction. Well, as hard as that might seem, won’t asking them later on why they stopped paying you be even harder? “But they won’t stop!” you want to say.
You may be right. But with a contract that you both understand, you have all the potential misunderstandings clearly spelled out. And it’s all done up front while everyone is feeling good about it. Plus, it’s so much harder to address problems later on when people are feeling guilty or taken advantage of.
If you don’t go the contract route, a lot of unpleasant or at the very least uncomfortable things might happen. Even to the best of friends. Some of these things include:
You might think it’s best to make the loan without interest. This is your friend after all. But, it’s a smart idea to keep this as a business arrangement. And that means you charge a reasonable interest rate.
This way you are making something on your money. And your friend really gets that this is a formal business arrangement, interest and all. In a way, it solidifies the deal. Also, it helps your friend feel they’ve given you something in return that’s fair. A real win-win.
Of course, that’s always possible. You need to decide if asking for a contract should get in the way of loaning money to a friend. But I will tell you that I did this with a good friend. And it kept the whole arrangement feeling clean and issue-free.
And when he finally made that last payment, it felt great for us both! (Yes, we are still good friends.)
Each time you make a loan payment, that payment pays off part of the loan. And it includes part of the interest you’re paying. Amortization is the accounting process that allocates the right amount of each part (principal & interest) as the loan goes on.
You can find a great amortization calculator by going to: Bankrate.com. Although it says it’s for mortgages, you can use it to calculate your monthly loan payment. And it also gives you an amortization chart that details every payment date and amount left as you pay off the loan.
I created a sample 3-year, 3% loan agreement to help you think through your own contract. But there’s also a sample amortization table that gives you a picture of how the loan and interest are paid off. You’ll see it dwindle, bit by bit, over the term of the loan.
In order to help minimize conflict, this 2-page contract directly addresses several possible issues that might arise. Some of the areas covered are missed payments, late payments, and early repayment.
There’s even a way to insure yourself in case something happens to the person you’re lending to. That may sound awful, but it can minimize problems should the unthinkable happen.
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Not everyone is going to go the formal route. I know that. But, I can assure you that any effort you put into creating a contract can go a long way to making the loan itself easy and issue-free. Or at least as issue-free as any loan between two people can be.
At the very least, I hope this post helps if you think things through. If you ever do wind up loaning money to a work friend or anyone. Good luck!
That’s correct, although I did go to law school. I also have an MBA and have dealt with many contracts. But between friends this worked very well for me to help keep things business-like. If you are concerned, then asking a lawyer might be a good idea. But, then again, if you’re concerned about the person you’re thinking of going into a loan contract with — even and especially if they are a friend — maybe don’t make the loan.
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