Kinship and Credit: Five Safeguards for Lending to Relatives

Few requests carry more emotional weight than a relative asking for money. A loan to a child for a house deposit, a sibling in temporary difficulty or a parent needing help with a bill can be a humane use of family resources. It can also damage relationships, distort retirement plans and create expectations that outlast the original need. The cautious position is not to refuse every request. It is to make family lending deliberate, documented and limited to money you can afford to lose.

At Castle Bank, the editorial view is simple: family lending is sometimes right, but it should never be casual. The following five safeguards are a practical starting point.

1. Decide whether the money is a loan or a gift

Before discussing repayment, decide what the money actually is. A loan creates an obligation. A gift does not. Many family arrangements fail because they are described as loans but treated as gifts, or vice versa. If you cannot afford to lose the sum, it should not leave your account as a loan. If you can afford to lose it and do not need repayment, an outright gift may be cleaner, provided both sides understand that no money will return.

This is not only a matter of sentiment. If you later waive repayment of a loan, that may be treated as a gift for inheritance tax purposes. If you lend money you need for your own essential spending, you weaken your own position. The first safeguard is therefore a private one: check your own balance sheet before you check the borrower’s.

2. Put the agreement in writing

A family loan should have a written record, even when no interest is charged. A simple agreement can set out the amount, the date, the purpose, the repayment schedule, whether interest applies, what happens if a payment is missed and whether early repayment is allowed. Both parties should sign it and keep a copy.

A written agreement is not a sign of distrust. It is a way of protecting the relationship from memory and ambiguity. For larger sums, particularly where property is involved, it is sensible to take legal and tax advice. The document need not be elaborate, but it should be clear enough that a third party could understand it.

3. Run an affordability check on both sides

The lender’s affordability matters as much as the borrower’s. Do not lend from an emergency fund, do not borrow in order to lend, and do not put your own mortgage or retirement at risk. A useful rule is to lend only from money that is genuinely surplus after your own reserves, debts and commitments have been provided for.

The borrower should also be able to show how repayment fits their income and essential spending. A promise to repay “when things improve” is not a schedule. If the borrower receives means-tested benefits, take advice before documenting a loan, as the arrangement may affect entitlement. If the loan is for a house purchase, the borrower should tell their mortgage lender; undisclosed borrowing can breach mortgage terms.

4. Set a repayment schedule and a review point

A standing order is better than good intentions. Agree a monthly or quarterly payment date, the amount, and what happens if a payment is missed. Build in a review after twelve months. If circumstances change, revise the schedule in writing rather than letting payments quietly stop.

Silent rescheduling is one of the most common sources of family friction. The borrower may assume the lender does not need the money; the lender may assume the borrower has forgotten. A short annual review, by email or in person, keeps the arrangement honest. It also gives both sides a chance to end or adjust the loan before resentment builds.

5. Understand tax and inheritance consequences

Interest received on a family loan is generally taxable as savings income, although the personal savings allowance and ISA rules may apply. The loan itself is an asset of the lender’s estate. If it is still outstanding at death, it may need to be accounted for in probate and inheritance tax calculations. Forgiving a loan may count as a gift, which can have inheritance tax consequences under the seven-year rule. Lending money and later needing care can also raise deprivation of assets questions.

These issues do not mean family loans should be avoided. They mean the paperwork should be kept and professional advice taken for larger sums. A brief note in your financial records, alongside the agreement, will help executors and family members later.

When to keep the drawbridge up

Some requests should be declined. Keep the drawbridge up if you would have to lend from your emergency reserve; if the borrower cannot show a realistic repayment plan; if you feel pressured or asked to keep the arrangement secret; if the money is for gambling, a speculative venture or a debt you do not understand; or if the relationship is already strained. A loan will not repair a broken boundary.

Scripts can help when the answer is no:

• “I’m not in a position to lend that amount. I can help you work through a budget or speak to Citizens Advice.”
• “I can give you a smaller sum as a gift, but I can’t lend more than that.”
• “I’d be open to a loan if we set out the terms in writing and you can show how the repayments fit your income.”
• “I’d rather not mix family money with debt. I’m sorry, but the answer is no.”
• “I can’t lend from our emergency savings, but I can help you approach your bank or a free debt adviser.”

A refusal can be kind, clear and final. Ambiguity is worse than a firm no.

A deliberate drawbridge

Family lending works best when it is treated as a formal arrangement with a human face. Decide whether it is a loan or a gift. Write it down. Check affordability on both sides. Agree a schedule and review it. Understand the tax and inheritance consequences. And be willing to keep the drawbridge up when the request would weaken your own walls. The castle metaphor is useful here: a drawbridge is lowered deliberately, not left down by accident.