Why You Shouldn’t Borrow Money From a Family Member

Another interesting question came up in my discussion with my friend about buying her first home: “Should I borrow the money for our down payment from my in-laws?”

Asking this questions was very hard for her. Before coming into the scenario, she was one of those people that judged her “rich friends” whose parents would loan or give them money for a car, house, or wedding.

I don’t begrudge anyone who has the good fortune of having parents or other relatives that can help them out.  In fact, I would have loved for my in-laws or parents to pay for the down payment on our house or our wedding. 

But I think there is an important distinction that needs to be made in this types of scenario.  Getting a gift from a family member is fine. But taking a loan isn’t something you should ever do.

Why the distinction of a gift versus a loan matters

Most people understand the difference between a gift and a loan. When it comes to cash, a gift you don’t have to pay back but a loan you do.  And the fact that you have to pay the money back makes all of the difference in the world.

The strife that the lender/debtor relationship creates makes regular interactions very hard. This is especially true for family members because the loans are usually very informal and don’t’ contain many concrete terms.

I’ve seen this many times in my practice and in my life.  For example, my mom cosigned for a cousin (also a HUGE no-no). Nothing is more awkward than a tense Thanksgiving dinner or not attending a family gathering at Christmas because you want to avoid the aunt or uncle that lent you money.

If you are going to take a loan, make sure the terms are very clear

Despite my reservations, if you still want to take a loan from a family member, I have some advice.

First, make sure the terms of the loan are very clear. The agreement should be in writing, signed by both parties, and should specify the loan amount, the time frame and interest rate that the loan will be paid back, and what happens in case of a default.

Second, acknowledge that the loan will change the dynamic in your relationship. Be ready for the relative bringing up the fact that he or she lent you money whether joking or serious. And know in advance what your response will be.

Borrowing money from a family member is fraught with awkwardness and tension. I suggest you never do it. But if you must, make sure that you make the terms as clear as possible