Loaning to your family and friends

Giving loans to those near and dear to you is one way for your loved ones to help pay for, for example, a wedding, a house purchase, a car, bills, and education.

The main advantage being that it’s convenient, cheap and flexible compared to loans from banks and pay-day lenders.

That said, before transferring money to your cousin or best friend, there are a number of things you first need to consider.

Soft loan vs hard loan

If a loan is soft, this means it is an informal arrangement; but if a loan is hard, it is set out in a formal document with clear terms. Although you might think setting out the details of a loan in a formal document is a bit extra, it’s actually the best way of ensuring that everyone is aware the loan is not a gift (assuming you do not want to make it a gift). Additionally, it sets out the exact amount that needs to be repaid, how it is to be repaid, and any penalties if payment is missed. If the relationship with the person you lent the money to was to ever break down (which, unfortunately, is never a remote situation), a documented loan agreement will offer protection.

It’s not impossible for the courts to find an unwritten loan arrangement to be legally binding, as was the case in Barry v Barry [2024] EWHC 1661 (KB), but it’s always best to play it safe and have it written down.

Will the loan be regulated?

So, you have decided to have the terms of the loan written down – great idea! However, is it as straightforward as putting pen to paper? Well, it depends.

Lending to family and friends could get caught by the Consumer Credit Act 1974 (CCA 1974) which means you, as lender, would either need authority from the Financial Conduct Authority (FCA) or will need to be exempt. The CCA 1974 is a piece of UK legislation that governs how lending works, and it specifies that all consumer credit lending (which includes personal loans between family and friends) will be classified as a regulated agreement for consumer credit purposes. Therefore, if a lender decides to lend without the authority from the FCA (and the obligations for regulated agreements are not complied with), that lender would be committing a criminal offence and the loan agreement may not be enforceable.

With all that said, there are exemptions meaning you may not be in breach of the legislation. This is something our regulatory team would be more than happy to discuss with you.

Taking security

It may be a good idea to secure the loan by obtaining collateral from the person you are lending to. This collateral could be in any form, for example, a car or a property or a written personal guarantee. The idea is that, whatever it is, it covers the value of the loan.

Taking collateral works two-fold: either it gives the borrower an incentive to stick to the terms of the loan agreement, or if the borrower fails to make repayment, you could take ownership of the collateral and sell it, if necessary, to recoup what is owed.

Leaving a loan unsecured runs the risk that, should the borrower not make any repayments, you may not get all or any of your money back.

Be mindful that if the person you are lending to already has a secured lending arrangement with another person or corporation, then consent from that other person or corporation may be required.

If another person decides to act as guarantor for the person borrowing the money, the guarantor may become directly liable to repay the loan if the borrower is unable to satisfy the debt.

Interest payment

Making extra income is never a terrible idea, and one way to do that with a loan agreement would be by charging interest. However, if you decide to charge interest, you may be liable to pay tax, depending on your individual tax position. This is because it will be seen as taxable income and so must be declared to HMRC.

If the person borrowing the money is using the loan for a business, they could deduct the loan interest from the taxable profit of the business.

What to consider if either party passes away

Under the Administration of Estates Act 1925, a deceased person’s estate includes assets and liabilities. This means debts do not disappear when a person dies. This is the case whether the deceased loaned the money or borrowed it. When somebody dies, all their assets, possessions, property, and money will form part of their estate.

When the deceased is the lender

Any loan will be treated as an asset of the estate meaning the estate will have a right to the money or value. It will be the duty of the personal representatives to gather all the estate property, such as, collect the loan repayments and pay them into the estate funds.

It is possible to arrange it so that any loans owed are ‘written off’ when a lender passes away, but that will not be covered by this article.

When the deceased is the borrower

A loan owed will become an outstanding balance on the estate and the personal representatives will be legally obliged to repay this debt, using the estate assets, before distributing the remainder to the beneficiaries.

If the loan was unsecured and the estate lacks the funds to make the repayment, then the lender might only recover a portion or nothing at all. The lender would need to submit a claim to the estate during probate.

This article clearly shows that a poorly structured loan agreement can cause lasting effects on your personal relationship with the person you are lending to. HCR is always ready to provide any legal advice before you make any decision on lending money to your family and/or friends and you can reach out to us at any time.