The family bank

Providing support with an intra-family loan

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The family bank has benefits for both lender and borrower, such as interest paid staying within the family, zero loan fees and the ability to customize terms. Still, it’s important to note a few key considerations, including expectations around repayment, tax implications and to help ensure it meets everyone’s expectations.

Use a family bank to lock in a low interest rate

When mortgage rates are high, there is still a way to lock in a lower one: the family bank. A family bank is a formalized approach to providing financial assistance to family members while encouraging accountability, responsibility and an appreciation for the longevity of a family’s wealth and legacy.

One advantage of an intra-family loan approach is that interest paid on the loan stays within the family rather than being passed it to an outside party. Other advantages include no loan fees, the ability to set the interest rate below a regular bank loan (especially if the child has a low credit score) and the ability to customize the other loan terms to suit the family situation (e.g., term of the loan or payment schedule).

While there are benefits that make family lending attractive, it’s important to take note of a few critical considerations before initiating intra-family financing. Here are several to think about.

Discussing family money, along with the intentions and reasoning around any current and future arrangements, can help you to begin establishing open and honest communication.
Heather George
Senior Strategist, Family Advisory and Philanthropy, UBS

Clear communication with the borrower

It’s important to clarify and clearly articulate expectations around repayment. The agreement could also have an impact on other family relationships and the borrower’s wider social circle. Be prepared to set boundaries on what information is shared with others both within and outside the family.

Without good communication about family loans and financial gifts, families can experience more difficulty and conflict when future conversations about financial matters inevitably come up. It ensures that all family members are on the same page and don’t fill in their own inaccurate explanations and assumptions. Families can take the discussion further by examining deeper considerations around family money. Examples include:

  • What do you want wealth to do for you or your loved ones?
  • What are three messages that you hope your children receive from you regarding money?
  • How does money enhance or detract from the legacy that you want to leave?

Reach out to your UBS Financial Advisor for a copy of the Money Talk Kit(PDF, 189 KB), which includes more conversation starters.

Tax considerations

Intra-family loans can provide tax-efficient wealth transfer opportunities by allowing younger generations to purchase an appreciating asset through a low interest rate loan, as compared to the older generation simply purchasing the asset and allowing children to live in the home.

There are also a number of income, gift and estate tax considerations of which both lenders and borrowers should be aware. In structuring the loan, discuss with an accountant or tax advisor the potential income tax consequences of a loan that accrues interest. It is generally simpler to require annual interest be paid to the lender rather than accrued.

Have a promissory note

Intra-family loans should always be evidenced by a promissory note signed by both the lender and the borrower that spells out the amount of the loan, interest rate, due date and repayment schedule. Both the borrower and the lender should reflect the loan as their asset or liability on any personal financial statements they maintain or prepare.

Additionally, loans should call for an interest rate at least equal to the appropriate applicable federal rate (AFR), which is published by the IRS on the 20th of each month. The AFR is the minimum interest rate that must be charged on loans made during that month to avoid below market loan status. Consider structuring the loan as a term loan rather than a demand loan to avoid the complexity and hassle of floating interest rates.

Want to know more? Read the white paper by Christine Kolm, UBS Senior Wealth Strategist, Advanced Planning, Intra-family loans(PDF, 396 KB)a publication of UBS Advanced Planning Group.

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