Tax Tips on Borrowing From Family

by Virginia A. Gorg

If you lend money to family members, make sure you have some rules in place. The Internal Revenue Service (IRS) has rules for interest income. If you charge interest, you must include that amount as income on your income tax return. However, a tax-free gift can be made to anyone once per calendar year, not to exceed $13,000. As a borrower, be sure the terms for repayment fit your financial situation.

Paperwork

When you borrow money from a relative, document that the money is a loan either with or without interest. This document will become a binding legal agreement, should any questions arise during the loan. The paper should include all payment terms and list the collateral for the loan, if any. Sample documents for this type of arrangement are available.

Solvency

To prove the money is a loan, not a gift, it is necessary that the lender write a memo explaining that you, the borrower, were solvent when receiving the loan. This helps ensure the lender can expect repayment.

Interest Free

If the loan is interest free, the IRS may consider the "unpaid" interest as income to the lender. The IRS contends that if a loan is made, the lender is receiving interest. The lender would have to include uncollected interest as income when filing a tax return, at an interest rate the IRS sets. To avoid this situation, the borrower must borrow less than $10,000 for all outstanding loans. Visit your accountant or tax preparer and file the appropriate forms with the IRS.

Payment Schedule

Arrange a feasible payment plan that you can reasonably repay. This will help both you and the lender feel comfortable that you will repay the loan according to your agreement. Having a signed promissory note helps ensure the loan's legality.

Business

A loan between family members must be considered a legal business transaction with such implications as repossession or court action, if the loan is not repaid according to the agreement. If you are having trouble making your payments as scheduled, speak with the lender as soon to possible to alter the terms of the agreement or find another solution.

About the Author

Virginia Gorg is a writer and self-published author. She is a grant writer as well and contributes articles to various websites. Gorg works full time as well as maintains a part-time position as a seasonal tax preparer and was strategically involved in a successful campaign for a local State Representative.

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