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4 tips for borrowing from friends and family

It should be no secret in the post-coronavirus world that we should expect to see credit standards tighten as many lenders rethink their credit standards or even move away from small business lending altogether. This is what happened during the last economic crisis. Fortunately, this is not the case with all lenders and there are still options available for creditworthy borrowers as well as options for small business owners with less than perfect credit histories. Borrowing from friends and family is one of those options.

While borrowing from friends and family isn’t the first choice for most small business owners to seek financing for small businesses, it is still one of the best sources for them. small businesses, from the smallest sole proprietorship to larger, more established small businesses. While these loans are sometimes referred to as 3-F loans, referring to the friends, families, and fools who offer small business loans, there are a handful of things you can do to be successful while being a dinner party. Thanksgiving. .

Here are the 4 things you can do to successfully borrow money from friends and family.

  1. Make it official. In other words, treat a loan from friends and family as you would any other type of financing. Avoid the temptation to be a cavalier by making periodic payments. Write down the loan terms: when payments will start, how often, how much will be paid, and what if you miss a payment. Even if your family lender thinks it isn’t necessary, it will help you avoid any misunderstandings down the road. If your lender is willing to wait for a future date (when your business is more profitable, for example) before accepting payments, be sure to define what that looks like. Is it a predetermined date in the future or is it a turnover? Will there be interest on the loan? Make it part of the terms so that there is no confusion down the road and you are not taken off the Christmas card list.
  2. Be specific about what you need and why. I think that way about any funding. Identify the need you are trying to meet and look for the capital to meet that need and no more. I believe the worst answer to “how much money do you need?” Is “How much can I get?” The best answer is that I need X amount of money and that’s what I plan to do with it, even better if you can add something about what you think this extra money will do for you. business. This is especially true when borrowing from a former college roommate or your wealthy Uncle Fred.
  3. Make it clear whether you are offering equity or whether it will be a loan. It might be tempting to suggest giving your friend or family member a piece of the pie instead of making periodic payments. There is nothing wrong with doing it, but if it does, you should make it official. Basically, you’re inviting a member of your family to become a minority shareholder in your business. If he is a qualified businessman who can help you grow your business with advice and guidance, it could be a very good thing. Remember, if you offer them equity capital, even if they are not qualified to run a business, they will likely expect you to listen to their thoughts and advice. Unless you have a friend or relative who is really knowledgeable in a small business, it might make more sense to bite the bullet and make periodic payments.
  4. Communicate. It doesn’t matter if you are offering equity or borrowing from your great aunt, be sure to contact her. Whenever my stepfather loaned money to his children when they were young, he kept a record of it in a ledger and held them accountable. Sure, they were kids, but he taught them valuable lessons about financial responsibility and how to communicate when trouble arose (which they sometimes did). If you haven’t communicated with your family lender on a regular basis, you shouldn’t be surprised that they’re puzzled if you’ve missed a few payments and show up to the next family reunion in a new car.

Taking a more formal approach to borrowing from friends and family not only makes it easier for you to borrow for, but formally setting your goals is a good exercise for you, whether you are borrowing from a family member or borrowing from a family member. a banker. An informal exchange may seem more natural, but can lead to unforeseen problems in the future.

Many business owners borrow money from family members with the good intention of repaying the loan, but it’s easy to let those obligations take precedence over what they might consider larger business obligations. . I would say a loan from a family member is just as important as a loan from your bank, credit union, or any other lender. In fact, a loan made by friends and family has a complexity that is not part of financing another business and should be treated as “real” financial obligations, because they are. What’s the best way to successfully borrow from a friend or family member.

This article was originally written on August 4, 2020.

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