Lending someone money

If someone can’t get a loan from a bank, it’s likely because the bank thinks they’re not a great bet. This is the risk you take on when they come to you for money.

Consider what the person needs the money for. Does the reason seem valid? Is the need pressing? For example, is the money for a down-payment on a home in a rising market? Or for a fancy new car?

Also consider the borrower’s financial habits. Are they disciplined in not taking on too much debt? Do they pay their bills?

Try not to let emotional appeals sway you. And stay on your guard to make sure you aren’t being manipulated. It’s okay to say no if you’re not comfortable lending the money.

Security is something the borrower gives to the lender to give teeth to their promise of repayment. The actual physical thing being offered is called collateral. It could be real property (land) or personal property (anything else).

If you get a security interest in the borrower’s personal property and they don’t repay the loan, you have the right to take the collateral, sell it and keep the proceeds.

Consider asking for a security agreement. This is a written document proving the borrower’s intention to grant you a security interest.

As a lender, you may want to protect your security interest from third parties. To do so, make sure the agreement meets three conditions:

• it includes specific descriptions of the collateral

• the borrower has signed it

• it’s registered with a government registry (here is the registry website)

These steps “perfect” your security interest. If the borrower physically gives you the collateral, that also perfects your interest.

Both lender and borrower should be clear on the terms of the agreement. Otherwise, problems and hard feelings can arise. A written agreement can protect you both.

Your agreement can still be legally binding even if it’s not in writing. A verbal agreement is a valid contract if all the elements of a contract are present.

These are the three elements needed for a contract to be binding:

• Agreement. The parties must agree on the terms.

• Consideration. Each party must receive something of value.

• Intention. Both parties must intend the agreement to be legally binding.

Emails, texts or notes can help prove there’s a valid contract. It’s also a good idea to keep a record of the transfer itself (e-transfer, bank draft or money order).

There are steps you can take to protect yourself if you decide to lend someone money.

Step 1. Figure out how much you can afford to lend

Step 2. Be clear on whether it’s a loan or a gift

Step 3. Discuss an interest rate that’s reasonable

Step 4. Establish a repayment plan

Step 5. If you take security, make sure the person owns the collateral

Step 6. Get it all in writing

Step 1. Figure out how much you can afford to lend

Before you agree to lend to someone, ask yourself:

• How much can I spare without ruining my own finances?

• Will I be okay financially if they don’t pay me back?

• How will this affect my relationships?

Prepare for the possibility that you won’t get the money back. That way if you do, it will feel like a bonus.

Step 2. Be clear on whether it's a loan or a gift

Ask yourself: Do I expect to get repaid? If so, when?

Usually, a court will assume that you expect repayment and are not gifting the money. However, things get complicated when the money is going to a family member. Making the terms clear from the outset can avoid problems down the line.

Step 3. Discuss an interest rate that's reasonable

Because you’re taking on risk, it’s reasonable to ask the borrower to pay interest on the loan. The question is how much.

Try to arrive at a rate you both can live with. Maybe it’s lower than what a bank would charge, but higher than what you’d earn if the money were in a savings account.

Step 4. Establish a repayment plan

The borrower should explain how and when they propose to pay you back. Ask what’ll happen if they can’t make their payments.

Step 5. If you take security, make sure the person owns the collateral

Make sure the borrower actually owns the thing they’re giving as security. Look at the registration papers. You can search the government registry to ensure no one else has a security interest in the collateral. Visit the government website to do a search.

Step 6. Get it all in writing

Having a written agreement protects both sides. It helps ensure both of you understand the terms. And it creates a paper trail in case of future disagreements.

The written agreement should include:

• the loan amount

• the interest rate

• how and when payments will be made

• what happens if the borrower misses a payment

• when the loan is due in full

We have a template that might help. See our loan agreement template.

When you lend someone money, problems can crop up. Here are some steps you can take to deal with problems.

Step 1. Be honest

Step 2. Write a demand letter

Step 3. Change the terms of the agreement

Step 4. Consider mediation

Step 5. Consider legal action

Step 6. Take enforcement steps

Step 1. Be honest

If you’ve lent money to someone and they’re struggling to repay it, be up front with them. Explain your perspective, and the impact on you of not being repaid. Tell them you want to support them in repaying the loan. Explore revising the repayment schedule.

Step 2. Write a demand letter

If the borrower doesn’t repay the money, you can take steps to collect. The first step is to write a demand letter. It lays out what you think the other person did wrong and what they can do to fix it.

In the letter, explain to the borrower that they haven’t repaid the loan as promised, and they need to do so. Give them a time limit to respond. (Be reasonable.) Explain the consequences if they ignore the letter.

You can write the letter yourself, or have a lawyer do it.

If you want to write it on your own, we have a template that might help. Here's our demand letter template.

Step 3. Change the terms of the agreement

If the borrower isn’t able to stick to the original terms, consider changing them. You aren’t required by law to do this. But, in the long run, it may be the easiest and least expensive option to solve the problem.

If you don’t have a written agreement, discuss revising the terms. Ask the borrower to suggest a payment schedule that will work for them. Once you both agree on the changes, put them in writing. Sign the written agreement, and have the borrower sign it.

If you have a written agreement, see if it sets out a process for changing terms. If not, you can add an “addendum.” This is an addition to the agreement that sets out more terms.

You could also revise the original agreement. Cross out the terms you don’t want, and add the new ones. Initial the changes, and make sure the borrower does the same.

Step 4. Consider mediation

With mediation, you and the borrower get together and talk, with the mediator steering the meeting. The mediator helps you both define the problem and understand each other’s interests. The dispute is resolved only if you all agree.

Step 5. Consider legal action

If you’ve tried all the above and you’re no further ahead, your next step may be legal action. You can sue the other party for breach of contract.

If your claim is for less than $5,000, you can bring it to the Civil Resolution Tribunal. This is an online system designed for people to bring claims on their own. If your claim is for between $5,000 and $35,000, you can sue in Small Claims Court.

In our in-depth guidance on this topic, you can find links to the Civil Resolution Tribunal and Small Claims Court websites. See our in-depth coverage of lending someone money.

If you decide to sue, there are time limits for filing a lawsuit. You should sue within two years of when payments stopped or when the money was supposed to be repaid. There are steps you can take to extend these time limits.

A lawyer can help you decide on the best course of action. There are options for free legal advice. See the options for legal help.

Step 6. Take enforcement steps

If you sue the borrower and get a court judgement, there are steps you can take to enforce it. These can help you recover money you’re owed. For example, you can:

• have money deducted from the borrower’s wages

• have the borrower’s property seized

• make the borrower come to court to explain why they haven’t paid

If you want to go further, we have more on this topic. See our in-depth coverage of lending someone money.