When kids just need a little bit of extra money or don’t qualify for loans on their own, they typically go to the Bank Of Mom And Dad somewhat by default. This shouldn’t necessarily be a habit, but if you handle the situation properly, it can be a great way for you to teach them about responsible borrowing. Depending on your circumstances, a few different questions might be appropriate before you open your wallet.
What are you going to use the money for?
No bank or credit union provides loans without knowing the purpose behind them. Prepare your kids for this and insist that they tell you where the borrowed money is going to go. Even if the item they’re going to buy is a gift that needs some secrecy (say, a birthday item for a sibling), the intent of the purchase still needs to be crystal clear. Remember, too, that your concept of money well spent isn’t necessarily going to match your kids’. If you have a reason for thinking their intended purchase isn’t wise, try to explain your position while hearing their side. If they are still confident that they want or need something after a few days, give them a chance. Even if the purchase ends up being a dud, they’ll learn a lesson from the experience.
When can you pay this back?
Many times kids—and even adults—borrow money out of need or want to think at the moment. They purchase without having a clear plan for how to repay, subsequently getting hit with cash flow issues, late fees and related problems such as lender collection calls or letters. If your kids aren’t sure of what they can do, tell them to come back to you when they have a payment plan outlined on paper, or offer to sit with them and work out one that is realistic. Just about any good financial advisor will tell you not to borrow if the loan repayment surpasses a certain percentage of your income, so figure out the point where borrowing would be a financial strain for your kids and say no if they can’t come up with a plan to stay under that amount.
What will you do if I turn you down/Are you sure you need to borrow for this?
Occasionally, kids are so sure that parents and caregivers will say yes to a request to borrow that they don’t think through how they’d handle a rejection. Talk about what the denial would mean so that you and your children both have an understanding of the impact your response will have. The conversation encourages your kids to have a Plan B in place and really explore all their options. Along this same vein, sometimes people take out loans or buy on credit simply because they want something immediately. It might be that your kids could make their intended purchase without a loan if they simply saved up for a while, worked a few more hours at an after school job or found a cheaper vendor. Ask them if they’ve considered these alternatives, keeping in mind that some situations have deadlines where it’s not feasible to wait.
Are you willing to have a contract with me for this?
Plenty of kids borrow thinking that, because they get money from family members, they can just fudge it if they’re late on payments or run into other trouble. Don’t let your children adopt this way of thinking—things simply don’t work under the Limitless Forgiveness Plan in the real world! Unless your children are willing to put what they’re going to do in writing and formalize their plan with you, they’re not ready to borrow. Pen in some consequences, whether that means a loss of privileges, a late fee, higher interest, loss of some kind of collateral or the inability to borrow from you for a designated period in the future. Having a contract (you can call it something else if you like, such as a Letter of Understanding) also demonstrates that they’re serious about the loan and teaches them the basic formalized process they’ll experience with other lenders later.
Letting your child borrow from you isn’t necessarily a bad thing. Even so, your kids need to think the process through. These questions can ensure both sides have a clear understanding of the loan agreement, get the best deal and are satisfied in the end.