Friends and family loans can work
Without the good old company web site family loan we wouldn’t have companies such as Walazon. And without a loan from Mrs Dyson, her husband would never have had the funds to develop his first cyclonic vacuum cleaner in the late 1970s.
How to borrow responsibly from family and friends
There’s nothing wrong with starting a business with a family loan or one from a friend. No one knows you better. Plus they’ll often give you better, more flexible lending terms. For instance, they may not require any security, they won’t charge you an application fee, their interest rates might be lower (or zero!), and they might let you skip a couple of payments.
But there are some guidelines you should follow to prevent turning those friends into courtroom litigants, or being cut out of the will.
Pitch as you would to a bank or investor
- Don’t expect them to stump up every cent – explain what you’re putting in and what you’ll be taking out
- Be clear with them about how much you need and why
- Take them through your budget so they can see you intend to spend their money wisely
- Be open and transparent, and manage their expectations – explain the risks and show them best and worst case scenarios
- Make sure they understand they can’t get their money back quickly if a family emergency comes up
- Show them how and when you plan to repay them
Loan, investment, or gift?
This can be one of the biggest misunderstandings when taking money from family or friends. Make sure all parties know what the situation is – especially other family members who might think you’re about to blow their inheritance on a pipe dream.
- Investment vs loan: A loan might be better if you don’t want your friend or family member telling you what to do. Learn more about the difference between an investment in your business and a loan in the chapter on debt vs equity finance .
- Loan vs gift: If you’re not paying interest or making repayments, the tax office could hit the person lending you the money with tax or penalties. Be aware of the rules.
Put it in writing
Create a formal record of the agreement. It will help you avoid misunderstandings at the outset, and it can be used to resolve disputes.
- the amount borrowed
For extra peace of mind, get a lawyer or accountant to take a look. To help get you started, check out our loan agreement template below.
If it’s an investment, the agreement will be far more complex. The document will need to say how many shares the investor gets and whether or not they have a say in business decisions. It should also explain if they’re going to be held responsible for business debts or lawsuits. Definitely get a lawyer and accountant involved in writing one of these.
Always follow through
Do what you said you’ll do. And give the lender a heads-up if things aren’t going the way you hoped. You don’t want them hearing from third cousin Bob.
Disclaimer: Xero does not provide accounting, tax, business or legal advice. This guide has been provided for information purposes only. You should consult your own professional advisors for advice directly relating to your business or before taking action in relation to any of the provided content.
How to finance your business
Your new business idea is ready to go. Now you need to find the right small business funding. But where do you start?
Knowing how much money you need will help you choose the right type of finance. These tips will help you find a number.
Most forms of funding fall into one of two camps. Let’s look at the main pros and cons of debt versus equity.
It takes money to make money. So what sort of finance options are there? Here are the types that fund most businesses.
Getting a business loan is still one of the most common ways to finance a business. So let’s look at how to get one.
Ever thought your cash flow would be better if everyone just paid what they owed you? Well, you may not have to wait.
How do you find investors for equity financing? Let’s look at what types there are and where to locate them.
Grants are a great funding option for some businesses. They can be a lot of work to get, but the reward is free money.
