Lending to friends and relatives can be tricky, and not only because of the stress it can place on your relationships. There are tax issues involved as well. If you have to lend money to someone close to you, here are some tips to do it right in the eyes of the tax code.
Yes, you should charge interest, even to friends and family. If you don’t charge a minimum rate, the IRS will imply interest in the loan and tax you for the interest income they assume you should be getting. This can occur even if you’re not actually getting a dime.
Charge enough interest
Not only should you charge interest, the amount must be reasonable in the eyes of the IRS. If it's not, the IRS will imply interest at their minimum applicable federal rates (AFRs). To stay on the safe side, always charge the interest rate at or above these AFRs, available on the IRS website. The good news is these interest rates are low and almost always below the prime interest rate.
Know the exceptions
If you don’t want to charge interest, you don’t have to IF:
Get it in writing
If you expect repayment, write out the terms of your loan. There are a variety of basic loan document formats online that you can use. Creating a loan document may seem unnecessarily formal when dealing with a friend or family member, but it’s important for two reasons:
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The tax information contained in this site is of a general nature and should not be acted upon in your specific situation without further details and/or professional assistance.
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