Have you made a loan to a child or grandchild?
When making a loan, you have an expectation of getting paid back. When a family loan turns into a grant, you’re not going to get paid back.
Here are 3 reasons a family loan may turn into a grant.
1) They “Forget” They Have to Pay Back the Loan
People’s memory can be a funny thing. Particularly younger people’s memory. Particularly younger people’s memory when money is involved. The child is looking at his mortgage payment, credit card bill and car payment. He conveniently “forgets” he owes grandma that $200 per month she loaned him to clear up his student loans.
2) They Run into Some Financial Difficulty
The economy has been a challenge. This has made it very difficult for younger people just starting out. This may be the reason they need to borrow the money in the first place. They may not be able to find a job, yet the student loan payment is due.
3) You Choose to Forgive the Loan
Parents and grandparents can always choose to forgive the loan. It’s entirely their decision.
If you choose to forgive the loan caution needs to be exercised. The forgiveness of the loan will result in a gift. You can give up to $13,000 per year to an unlimited number of people without having to file a gift tax return or pay a gift tax. A married couple can gift up to $26,000 annually without having to file the gift tax return. For example, a married couple loans their son $50,000. Eventually they decide to forgive the loan. This forgiveness should be done over a period of three years to avoid having to file the gift tax returns.
What can parents and grandparents do to protect themselves from having a family loan turn into a grant?
Certainly you can have a loan document that spells out the terms and conditions and includes interest. This may make some borrowers feel more responsible to pay back the loan.
The reality is, even with a loan document, most parents and grandparents are not going to enforce this loan if the child or grandchild can’t pay it back.
The best way to protect yourself is to assume you will not be paid back. Then, if you aren’t paid back, you won’t be disappointed.
Don’t make loans to children and grandchildren where you can’t afford to lose the money.
ACTION ITEM: Parents and Grandparents will you be cautious when making loans to your children or grandchildren?
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