Keep it in the family, but avoid rifts with relations
More people are bypassing traditional lenders in favour of intergenerational loans. Roz Sanderson reports
Sunday 21 August 2011
You don't need an economics degree to realise that for millions of families money is tight, and as a result many find themselves turning to bank overdrafts, credit cards and even extortionate payday loans to tide them over.
However, many people find that the high interest rates, long contracts and immovable terms and conditions are enough to put them off borrowing, at least from a formal lender.
No wonder, therefore, that new research from insurer Aviva has shown that 63 per cent of consumers say that loans between family members have become more commonplace since the recession and credit crunch. What's more, the research found that 15 per cent of families in the UK are regularly turning to each other when in a financial difficulty instead of going through more traditional methods such as bank loans, overdrafts and mortgages.
Debunking the parsimonious stereotype, the Scots are the most generous in the UK when it comes to helping out family members financially, on average lending nearly £1,000 more than the UK average. They also have a lower expectation of ever getting the loan back, with only 30 per cent of lenders expecting to see the money again, rather than 80 per cent in England and Wales.
There are several things to consider before you borrow money from your family; it's important that everyone is clear on the terms and conditions of the loan, that you're aware of how much is being borrowed, whether it's a one-off payment or a series of loans, the length of time it will take to be paid back and any interest that has to be paid.
One of the most attractive options for those considering borrowing money from their family is that the loan is likely to come with a very low rate of interest, or possibly with no interest at all. If this is then combined with a flexible repayment plan that sees the borrower paying back only what they've borrowed, then it's certainly seems to be the obvious solution if it's available.
Not surprisingly, however, money can often be the cause of many family arguments and rifts. So while interest rates might be low, you could find that the personal risks involved in borrowing money from your family outweigh the benefits.
Tom Wilson of Aviva said: "In general, intergenerational lending can be good to turn to in difficult times, but it's important for consumers to make sure that they've sought the proper advice on borrowing money either from the Consumer Credit Counselling Service, or from the Citizens' Advice Bureau (CAB), and to ensure that they've explored all of their options."
In general, CAB advises that people carefully consider all the options before deciding to lend money to family and friends. It gives these tips:
Don't lend money you're not prepared to lose
It's important to be aware of your personal relationships in these situations. If you really want to preserve your relationship with your friends and family, it's important that you understand and accept all the risks involved in lending and borrowing money.
Draw up a written agreement to avoid misunderstandings
Similarly, having a written agreement, with all the terms and conditions of the loan, including the details of the repayment charges and dates, will ensure that you don't come across any misunderstandings later on in the arrangement.
Try to assess the risk as a more formal creditor would
If you're lending money, you should know what the money is going towards, what the likelihood is of the person being able to repay you, and if there are any other ways that they could borrow the money to avoid any unnecessary personal risks.
Aviva's research found that, on average, you're more likely to get a loan if you approach a female family member, although men are more inclined to lend a third more than women do. "This is definitely seen to be a rising trend," Mr Wilson said. "The research has shown an increase in intergenerational lending in the past five years."
In particular, there seems to have been a rise in interfamily lending for those in retirement. "Age is an issue. Lots of people in retirement still have credit and mortgage debt, and more and more they're approaching the younger generation for financial help," said Mr Wilson.
With parents approaching retirement and children going off to university, there is a lot of pressure being put on the middle generation to support their families.
It's important for both the lender and borrower to be aware of what is and isn't subject to tax before any money changes hands. If the loan is interest free, then neither the benefactor nor the recipient is subject to tax. Any loan that has interest, no matter how low, has tax implications with the lender having to declare the interest received as a taxable income on their self-assessment form.
Any cash gifts given to an individual are free from inheritance tax as long as the donor lives seven years after making the payment. There are though some exemptions with people able to gift up to £3,000 a year free of tax and up to £5,000 as a wedding gift from parent to child.
Currently, the inheritance tax threshold stands at £325,000, or double for married couples or civil partners, so if your estate is worth more there are special exemptions on gifts that you can make to others that will remain tax free when you die. This includes gifts that you make to your spouse or civil partner, as long as they have a permanent home in the UK.
Alternatives to family lending
Peer to peer sites such as Zopa cut out the banks and lets you borrow money directly from individual lenders. The lender sets their own rates, normally of about 6.9 per cent per annum, and the borrower can take out a low-interest loan.
Credit unions are set up and run by people who have something in common. They offer low-interest, easy-to-use saving and borrowing for their members.
0% credit cards are available only those with a good credit rating, but if you can get hold of one you could use it to pay for what you needed the loan for before the interest shoots up.
Kerry Grant, North Yorkshire
Kerry Grant is a mother of two who borrowed £20,000 from her parents two years ago. After a bad divorce she was forced to downsize to a smaller property with her two children, and although she had enough money to cover the cost of the house she had no funds left with which to renovate it.
"I found a derelict cottage that was in severe need of doing up, but my husband had left me with a bad credit rating so I wasn't able to get a loan through traditional means," said Ms Grant. If her credit rating had been higher she might have been able to secure a fixed-rate personal loan, but with high interest rates she would have been paying back significantly more than she borrowed, and would have been subject to late payment fees on top of all that. Luckily for Ms Grant, her recently retired parents were in a position to lend her the money she needed over a four-month period without charging her interest.
Ms Grant and her parents never felt the need to formalise the loan; she simply repays them £330 a month. The situation works particularly well for Ms Grant because if she is unable to meet her repayments one month, her parents will let it slide until the next month and she doesn't have any late payment fees. On top of that, because it's an interest-free loan she has to pay back only what she borrowed.
Even if Ms Grant had been able to take out a loan by other means she would have still borrowed from her parents. "I would still have preferred to go through my parents," she says. "They were retired and had the money and I would have wanted to avoid paying through the nose anyway." She admitted that it was easier for her to go through her parents partly because of their financial stability, but also because she knew that they felt as though they were investing in the future of their grandchildren.
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