Borrowing from family or friends to finance a small business – good idea or not?

Borrowing from family and friends is a very common way of financing a small business. Business owners approach family and friends different reasons. It might be that there is an immediate opportunity but there isn’t the time to get a bank loan or maybe the bank has said “no”.

Borrowing from family and friends can be a quick and cheap solution but there are risks!

If your business doesn’t do well and you can’t repay the loan you will experience angst and pain both on a business front and a personal level. Its hard enough for an owner to deal with a struggling business but the added burden of dealing with a family member or a friend who has lent you money makes it even tougher.

Does this mean that borrowing from a family member or friend is a “no go” area? Not necessarily. It can and does work. We know a business owner who was under pressure from his bank so he sought out a well-heeled friend who was willing to provide short term finance which bought the owner time to restructure the business and return it to profitability. In this case it worked out well because nine months later the friend was refinanced with bank debt once the bank was satisfied that a profitable trading record has been re-established.

So while there are risks in borrowing from family or friends, it can be beneficial to all parties. But if do go down this path it is crucial that all aspects are clearly understood and documented just as you would if you didn’t have a personal relationship with the lender .

There are always risks in borrowing regardless if the lender is the bank or a family member or friend. The important point is that all parties fully understand these risks and formally document how the arrangement will work.