subject: Five Good Reasons To Close The Bank Of Mom And Dad [print this page] Hey mom and dad, can I borrow $150,000 to get my MBA?
I can imagine the reaction from my dad if I asked that question when I was applying to graduate school! What is the matter with you kid, did you lose your mind? Notwithstanding the fact that he didn't have the money I knew the answer would be NO. So I cobbled together student loans, scholarships and money earned from multiple jobs to pay for my MBA. Fortunately I am married to a wonderful woman who worked full time, in retail jewelry sales no less, to help us crawl through the crucible that is graduate school.
Many adult kids ask their parents for loans to pay for higher education, starting a business, buying a house and many other reasons. Borrowing money from the bank of dad and mom is littered with landmines that can blow relationships into a bloody tangle of emotions spilled out on the borrowing battleground. It can be a great deal for kids in a grown-up body but it is almost always a questionable proposition for the uninformed parent turned lender.
Why? I can identify at least five solid reasons to consider rejecting the loan application from your adult child. However, the tactics and agility of logic often surrender to the overwhelming force of emotions.
1. Parents are conflicted by the love they have for their kids. The emotional playing field is heavily tilted in favor of young adults with brains that have partially formed centers of compassion and reason. The child doesn't understand that a loan default is as much a financial blow to the parents as it is a breach of trust. A grown-up brain, on the other hand, usually has been honed by years of maturity and growth with advanced critical thinking skills. Many, but certainly not all, adults have well developed brains capable of high level reasoning and logic. They also have unrealistic expectations that the child cares as deeply as the parent about commitment, honor, trust and consequences. Parents should gift the money with no expectation of repayment. Do not lend! It is a repayment fantasy!
2. Parents often skip the appropriate credit analysis on their kids. What is the source of loan repayment? What is the alternate source of repayment? What is the history of repayment from other loans made by friends and family? Is the loan for sugar and lemons still outstanding when they started that lemonade stand at age seven? Be realistic and do your credit due diligence before agreeing to make a loan. Commercial lenders have a deep bench of analysts and underwriters to evaluate borrower risk and make sure the bank gets an acceptable return for the lending risk it is taking. Parents have no underwriting experience, training, analytical tools, finance staffing or collection agency. Lending in these conditions is like speeding at night on a dark country road while looking through empty toilet paper rolls. It is a little risky! Parents compound the financial problem by making no or low interest rate loans to their children which skews the lending risk and reward equation.
3. The incentive to do well in school or business may be lower if someone else is paying the bill. Human nature dictates that if I have little at risk there is less incentive to push hard for results. For example, there is no guaranty a job will be waiting at graduation that will cover the loan payments. The likelihood of loan repayment is reduced if post-graduation job prospects are diminished because of sub-par academic performance. The borrower will have greater debt service stress because of less cash flow. Parents, you should expect to be repaid in this lifetime; yours, not theirs. The tech stock bubble was created by expectations of future income. Don't buy into that illusion.
4. Most borrowers are attracted to the idea of no recourse if a loan is not repaid. Other sources of lending will come after the delinquent borrower. A bank has powerful business and legal tools to compel repayment and they have no emotional disconnect if collateral needs be repossessed. Parents hide behind a tin shield of collection toughness which is quickly pierced by the sword of youthful ambivalence.
5. Legacies are created and destroyed by debt. The parent and child will alter their financial legacy forever by becoming lender and borrower. Parents should carefully study the lending terrain and make accurate calculations for the time and distance of loan repayment. Probe carefully to avoid an emotional crevasse on the mountain of relationship lending.
Parents, are you strong enough to objectively evaluate the loan application from your kids? Your relationship, financial future and emotional well being hang on the choice you make to lend or not to lend.
