Keeping the Bank of Friends & Family solvent

More than 400 years after Shakespeare wrote "Neither a borrower nor a lender be" in "Hamlet," financial experts are still preaching the same message when friends and relatives ask for loans.

Advice columnist Suze Orman says "Family members aren't ATMs." Chris Farrell, economics editor at Minnesota Public Radio, simply advises "Don't do it."

But the sputtering economy and high unemployment rates have many of us ignoring traditional advice and lending money -- even when we know it's probably a bad idea.

Last year, 42 percent of those surveyed by the Pew Research Center who said they had lost ground during the recession borrowed money from family members and friends to pay bills. Many do so because they can't get traditional loans from banks. From March 2009 to March 2011, loans by banks declined by more than $500 billion, according to FDIC data.

Going to a bank isn't an option for Greg Hawkinson, who admits that he's not a very good money manager. Instead, the St. Paul man regularly borrows several hundred dollars from a couple of friends willing to take a risk, but asking for the loan never gets any easier.

Hawkinson said he pays back his lenders within a month, with 10 percent interest. "The high APR is self-punishment," he said. "I hate feeling like a beggar."

Linzi Hansen of Annandale, Minn., has been both a borrower and a lender. She and her best friend lend each other money often. "It always seems to work out that when she is low on cash, I'm not, and when I'm low on cash, she's not," said Hansen, 22. "We never have issues with not getting paid back," she said.

"It's a classic mistake," Farrell said. "Don't lend money that you can't afford to lose."

Be clear from the get-go

A successful loan starts with clarity, according to Ruth Hayden, a St. Paul resident who teaches money management classes and whose books include "How to Turn Your Money Life Around."

The lender should ask why the person needs the money and what it will be used for, to get a sense of whether this is a solution or a bandage, she said. The lender also needs to make clear that the loan is not a gift.

Hayden advises that writing up a loan document with terms, interest and payment schedules can drive the point home to a young adult who might assume that Mom and Dad aren't really expecting to be paid back. "It's about each side saying, 'I respect the relationship, and I want to do this right,'" she said.

Darryl Dahlheimer, program director for LSS Financial Counseling Service in St. Paul, said that what every lender wants to avoid is becoming an enabler.

"Gifts and loans are not intended to be a steppingstone to extend disaster," he said. After a person has bailed out a loved one two or three times, it's time to find a better way.

Good cop, bad cop

Sometimes, it's best to bring in a third party to help set up a loan plan. Or to see if it's a good idea at all.

At LSS, lenders and borrowers can come in together to review the borrower's income, expenses and debts and help develop a workable budget that includes paying off the loan, said Dahlheimer. If the borrower goes in alone, he or she needs to share the plan with the lender.

"Check out the story with friends or family members who know this person to see if they, too, have been approached for a loan," said Bera, whose clinic specializes in financial and personal counseling for families, students and members of military families.

If the person has an addiction such as compulsive spending, gambling or drugs, the fact check might bring this out, he said.

If it turns out the person is not entirely trustworthy but the lender still wants to help, Bera recommends paying for the need directly, such as the dentist's office for dental care, rather than to the individual.

For friends and relatives who may be on a downward spiral, it's sometimes best to bring in a third party who can act as the "bad cop," he said. Adult children might not benefit from a parent telling them that they need to find a cheaper apartment or a less expensive car. A credit counselor is often better in that role, he said.

A third party can also let the would-be borrower know that Mom can't afford such a loan without compromising her own care. "Sometimes borrowers think the lender has more money than they really do," said Bera.