Home Loans from Family and Friends
More and more people are turning to family, friends and loved ones to secure loans for the purchase of a new home.
If you have had problems securing a loan from a bank, or if you just don't want to get involved in the mortgage programs that banks offer, you may have the option of borrowing from family, friends and loved ones. If you can pull it off right, everyone can end up winning. You may be able to get the loan you need at an interest rate that you could have never received from a bank. In turn, the people you borrow from may be able to get an interest rate better than even the best savings account can offer.
These loans are often referred to as "private home loans," or an intrafamily loan, and are not as uncommon as you might imagine. They are almost the same as a mortgage that you could get from the bank or other lender in many respects.
Just like with those more traditional loans and mortgages, you will probably have to sign several documents that go along with the private home loan and also agree to make payments each month, with interest. Like a bank, your private lender will hold a lien on the home you buy, and if you fall behind in your payments, they have the right to demand payment in full. In addition, just like a bank, they can foreclose on your property, or ask you to sell in order to make good on the outstanding balance of the loan.
Like with a bank, you would also have rights against the private lender as well. When borrowing from family or friends, your lender could not ask for full payment without just cause (not if, for example, you missed your grandmother's 80th birthday).
Benefits of a Private Loan: Borrower
There are several benefits that you may get by opting for a private loan from a friend, family or loved one that you may never get by going to a bank. These could include:
- Low Interest Rate -- Banks are in the business of making money, and to this end, you are often at their mercy if they wish to charge a high mortgage rate. Because of the nature of private loans, however, your lender may allow you to fix your loan at a rate that you would never see coming from a bank.
- Payment flexibility -- Unlike banks and other institutional lenders, a private lender will most likely allow for you to vary your payment schedule depending upon your circumstances. In addition, a private lender would probably not impose penalties for things like early re-payment, whereas banks commonly engage in the practice.
- Federal tax deductions -- Don't think that you will not be able to deduct from your federal taxes just because you are borrowing from family or friends. You can take the same tax deductions for your private loan as you would be able to from a conventional loan.
Benefits of a Private Loan: Lender
In addition to benefitting the borrower, a private loan also bestows benefits to the private lender. These benefits could include things like:
- A better rate of return -- Private lenders can offer the borrower an interest rate that is between the highest savings-account interest and the lowest mortgage rate. By doing this, everyone wins: the borrower gets a great interest rate, and the lender's money earns more than it would by sitting in a bank account.
- Steady income -- like conventional mortgages, private loans are paid over a period of time. Because of this, the lender has the opportunity to have a steady source of income that is reliable and dependable.
The Paperwork for a Private Loan
If you have come to an agreement with a friend, family or loved one to have them finance all or a portion of your home loan, you should treat it just as a bank would. To this end, you should draw up the necessary paperwork, such as a promissory note and various documents that go along with a mortgage. In addition, you may want to think about putting down a proposed repayment schedule in writing.
- Promissory note -- This is also commonly referred to as a mortgage note and is a binding document that is signed by both you and your lender that says you agree and promise to repay the loan under certain terms. The terms that must be included in this note are the interest rate, the loan principal, payment dates and the period between payments. In addition, the lender should also put in any penalties that may be imposed for late or non- payment, such as requiring full payment of the loan if certain conditions occur.
- Mortgage -- Also known as a deed of trust, the mortgage document is the legally binding document that secures the promissory note. This gives the lender the legal authority to foreclose on the property if you do not pay off the entire loan, plus fees and interest, within a certain time period. The mortgage document needs to include the recognized owner of the property, a legal description of the property and the borrower's responsibility to pay off the promissory note, maintain insurance, and keep the property in good condition. If you, as the borrower, fail to comply with the mortgage, the lender may ask for full payment on the loan immediately.
- Repayment schedule -- Although it is not legally required, it is still a good idea to put down in writing the agreed upon repayment schedule. This will help avoid any unnecessary strain between you and your private lender.
After You get the Loan
Just like with a traditional loan, if you run into problems in paying off the loan, you should be sure to contact your private lender as soon as possible. Because your lender will be family or a friend, you may be able to work out a solution, perhaps even forgive some payments on the loan. You should try not to take advantage of this in excess, however, as it may place significant strain upon the relationship between you and your lender.