Legal Contract for Lending Money
When creating a legal contract for lending money, there are many important things to consider.3 min read updated on February 01, 2023
When creating a legal contract for lending money, there are many important things to consider. A loan agreement, also known as a,
- loan contract,
- or term loan,
can be used to document a loan either between persons or businesses. A contract is the borrower's written promise to repay an amount of money to a lender. The contract is used to outline the terms, including how the money will be repaid and when. Loans can be used for such things as:
- Starting up a business.
- For education.
- To make large purchases.
- For personal funds.
In the event the loan is a smaller amount, or has more simple repayment terms, a promissory note can be used which will simply require the borrower's signature. Loan documents are used for funds that are larger, have more detailed payment terms, or a specified interest rate.
Details Included in a Contract for Lending Money
For a loan to be enforceable, it is crucial to have certain details included such as:
- The loan amount.
- The interest rate.
- The length and term that the contract is in force.
- Whether payments will be made in a lump sum or in regular payments.
- The date that the payment or payments will be made.
- Penalties and interest rate increases if payments are missed or late.
- Collateral that is being used to secure the loan.
- Lender and borrower contact details.
- The location where the contract is signed and enforceable.
- If necessary include the information of the co-signer or guarantee that takes responsibility if the borrower defaults.
- The date that the agreement takes effect.
- The signatures of all parties.
You can have one or more guarantors, though they will be required to agree to the same terms that the borrower does.
Why You Need a Loan Agreement
Before you agree to loan anyone money, it is vital to have a loan agreement into place. This will ensure that you are protected and that you have legal recourse if repayment is not made. Once executed a loan agreement will be legally binding and in effect. Your loan agreement will not only serve as a document to the agreed upon terms of the loan, but it will also serve as proof that the money or goods were not a gift to the borrower. This is critical to not only ensure repayment but also to prevent possible problems with the IRS.
Even if you loan money to a friend or family member, you should always have a loan agreement in place to prevent disagreements that could later ruin your relationship.
What Is a Family Loan Agreement?
A family loan agreement is a contract for a loan that is made between parties that are either related by blood or by marriage when one is acting as the borrower and the other as the lender. A family loan agreement often includes an interest rate as well which is a percentage that is compounded annually. This means the lender will end up paying back more than was actually lent to the borrower. You do not have to charge interest to a family member, but it is still good practice to have a contract in place.
A family loan agreement should contain the same elements of a loan agreement between unrelated parties, and it is enforceable in the same way. You should also include the relationship with the parties and make sure that the agreement has two other witnessed and is notarized.
While charging interest often goes against the idea of a family loan, it is important to consider the fact that the family member lending the money is forgoing the interest that they could possibly earn on the money if they had not lent it. If the lender were to charge interest, this would offset the loss. Since the stock market can be a risky venture, lending money to a family member with interest may be a safer bet.
Aside from the loss of potential earnings, there is another consideration to make which is tax issues involved. The IRS allows you to make an interest-free loan to a family member for up to $14,000, but anything above that could incur a tax liability. This is something to consider and charging interest to offset this cost would definitely be fair.
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