Loaning Money To A Friend For Down Payment

[Patty C.]

A good friend and colleague owner occupies a three bedroom condo that he does not like. He feels it is too big, not walk-able to destination activities (restaurants, movies, parks, grocery stores, etc). It does not have the social environment he wants and he has become unhappy living there. Because of this, he has been looking for another home. 

Today, he called and told me he found a place he really liked. He explained that he needs to sell his place to get the proceeds needed to buy this other property (which is a one bedroom condo) located in a condo community he is familiar with and wants to live. My friend has a nice steady and reliable income, will most likely sell his condo quickly with enough proceeds to purchase the property he wants with a nice sum of cash to bank. 

Since I took answered his call while having dinner with friends, I suggested we discuss this tomorrow when my full attention can be focused on his important decision.

Your input and suggestions please since this is the first time I have loaned money to a friend. 

I have the ability to help my friend and I want to help. He has the capacity to pay me back with the proceeds from the sale of his property. My roth IRA can be used for 50% of the down payment. If the other half of the down payment comes from my personal funds, a big tax hit would eat a large part of the interest made because my ordinary income is hit hard with taxes. What are some other ways to be compensated that can avoid taxes?

How to decide on what interest to charge a friend? 

I'll be listening what he has in mind and will share with him the things listed below that need to be done as part of my condition to make a loan.

1. Identify a SD IRA custodian and set up an account.

2. Get everything in writing.

3. Use his condo as collateral. 

4. Fill out promissory note and trust deed that will be recorded with the title company.

5. Fees: request he pay for all fees (i.e. setting up SD ira, drawing up documents, recording, etc) I will do the work to find the SD IRA custodian, title company, and other professionals that is necessary to structure the loan legally and works for both of us.

If you have done something like this, how did you handle the situation. Your input would be appreciated. Please feel free to PM me if you think it more appropriate  :-)

Thank you!

[Erik W.]

Bridge loan is a much better idea and barely any difference in cost.  He can use the collateral in the condo as the down payment on the new loan secured by both properties.  He will have to get a loan appraisal and title insurance on his current home as well as the new home, but beyond that, nothing significant.  If the refinance is done within 6 months, the appraisal for the new home often can still be used when he sells the condo and puts the new home under permanent financing.  The higher interest rate for a bride loan (+ 1-2% over conventional) is almost not worth talking about: it's only going to be for a few months.  Chump change.

I get it that you want to help, but if something goes wrong are you prepared to foreclose on your friend?  Before you say, "That will NEVER happen!" realize that's what everyone says right before it DOES happen.  Relationships ruined by money are everywhere.  I'm not saying your friend is a crook or untrustworthy.  I am saying "life happens!" Job loss for nothing his fault: downsizing, corporate takeover, illness, family issues, etc.  If you're not mentally and emotionally prepared to handle every potential outcome according to professional business practices, then you have no business lending to someone.