What Is a Family Loan?

How family loans work

Family loans are a cheap and convenient way to borrow money from family members. Unlike personal loans, they typically have low or no interest rates, flexible payment schedules and no credit checks. But if you loan or borrow more than $10,000, interest must be charged, or it will be considered a gift for tax purposes.

Family loans have relatively low interest rates and flexible terms.

These arrangements can benefit both parties. The lender can earn interest on their funds, and the borrower can receive a flexible, low-cost loan.

What are family loans used for?

Family loans can be issued for any purpose, but they are commonly used to:

• Make a large purchase
• Put a down payment on a house
• Consolidate debt
• Start a business
• Pay for school

What to include in a family loan agreement

Family loan agreements should include the following:

• Parties involved
• Loan amount
• Loan duration
• Interest rate (if any)
• Payment amount
• Due date for payments
• Collateral, such as a car or property
• Late payment provisions, such as when a payment is considered late and whether a fee will be charged
• Default terms, such as what will happen and when if there’s collateral securing the loan

» RELATED: Using gift money for a down payment

Pros and cons of family loans

Tax implications of family loans

There are no tax implications on loans to immediate family members if the loan amount is under $10,000. If the loan is over $10,000, the lender should consider charging interest on the loan, otherwise the Internal Revenue Service (IRS) may consider the money to be a gift, not a loan. If the money is a gift, then it goes toward the lender's annual gift-giving limit, which is $19,000 in 2026. If the lender exceeds the gift limit, they will need to file a gift tax form.

The interest charged on the loan must be the lower of either the IRS’s acceptable federal rates (AFR) or the borrower's net investment income for the year. If the borrower's investment income is less than $1,000, interest doesn't need to be charged.

If the lender doesn't charge the required interest, the difference between the AFR and the actual interest is considered a gift to the borrower. This means it will count against the lender's gift-giving limits. Any interest that is charged will have to be claimed as interest on the lender's tax returns.

Should you make a loan agreement for family loans?

A family loan agreement can help you maintain a positive relationship with a loved one and clearly state the loan terms to avoid any miscommunication later. It can also prove that the money is a loan, not a gift. This will impact the lender's tax return and gift-giving limits, and it will also help if either party passes away.

Evan Farr, principal attorney at Farr Law Firm, said the point of a formal loan agreement is to “ensure that the estate is able to collect the loan payments if the person to whom the money is owed (the lender, often an elderly parent) dies. Without a written loan agreement or promissory note, the personal representative of the estate would not be able to collect the outstanding amount of the loan.”

Farr also suggested getting legal advice.

"Legal advice is essential, especially if the loan is being made by or in relation to an elderly parent, as Medicaid rules must be complied with, and those are extremely complex,” Farr said.

Alternatives to family loans

Lending money to family members can create issues that go beyond money. Mixing money with family can change the dynamic, and as much as you may want to help out your loved one (or be helped out), it may not be worth the risk. Here are some options for both lenders and borrowers if a family loan isn't the right choice.

Alternatives to lending money to a family member

Some alternatives to lending money to a family member include:

• Gifting the money: If you want to help out a family member and don't want the stress of having to be repaid, you may want to consider gifting the money.
• Co-signing a loan: If you have good credit and a low debt-to-income (DTI) ratio, you may prefer helping them get their own loan by being a co-signer instead of lending them money. Just know you’re legally responsible for paying the loan if the borrower defaults.

Alternatives to borrowing money from a family member

Some alternatives to borrowing money to a family member include:

• Personal loans: If you can qualify, getting a personal loan may be your best option. You can use the funds for many purposes, and you'll make regular payments to repay the loan.
• Home equity loans: If you have home equity, you may want to consider a home equity loan or a home equity line of credit (HELOC). Since the loan is secured by your home, interest rates are typically lower.
• Credit cards: If you only need a few hundred or a few thousand dollars, consider a credit card. Some cards are easy to qualify for, and you don't have to worry about losing any collateral if you default. The downside is that interest rates and fees can be high.

» RELATED: Top peer-to-peer lenders

FAQ