How To Create a Loan Agreement for a Family Business?

Updated October 5, 2023
12 min read
How To Create a Loan Agreement for a Family Business?


If you run a family business, it's likely that you've had to contemplate, or perhaps you've already implemented, a family business loan agreement. This document is seen as an integral part of the smooth operation of your business. One of the key aspects to remember when creating this type of agreement is that it requires careful thought and consideration, given that your closest relations are involved.

A family business loan agreement, as the name suggests, is a documented agreement that outlines specific details regarding a loan given within a family business. Now, you may be asking yourself, why is having this agreement so crucial for your business? Let's delve into that a little further in the next sections. Understand that the context behind the need for this document stretches far beyond just the realm of business.

What Is a Family Business Loan Agreement?

A family business loan agreement is a formal written contract involving family members who borrow from or lend to the family business. The importance of this agreement cannot be overstated. It helps move the business operations from the territory of emotions and family ties to the level of professional transactions. 

Importance of a family business loan agreement

The significance of a family business loan agreement cannot be understated. This written contract fosters transparency within the family business and provides clear expectations for all parties involved. Thus, it's indispensable not only for ensuring smooth transactions but also for preventing potential misunderstandings and disagreements. Imagine if a family member, such as an uncle, lends money to a niece to support the family business. Without a proper agreement, the transaction could lead to confusion and strain relationships.

Under U.S. law, the Internal Revenue Service (IRS) states that family loans need to charge a minimum or imputed interest to avoid tax complications. Without a family business loan agreement or with a poorly crafted one, the IRS might treat the loan as a gift instead, which could incur gift taxes. In some cases, if no contract specifies that it's a loan, the IRS could also consider it personal income and charge income tax on it. By clearly stating the interest rate, even if it's zero, a family business loan agreement can prevent such tax-related issues that could arise.

Moreover, a family business loan agreement plays a critical role in ensuring fairness among family members, particularly when it comes to estate distribution. For instance, if a parent running a family business lends money to a child who is more involved in the business compared to the other children, documenting this transaction through an agreement becomes essential. When the parent passes away, this agreement keeps a record of the loan, so it's considered during the distribution of assets among heirs.

Types of Family Business Loan Agreements

Family business loan agreements come in various forms, each designed to address specific lending scenarios within a family business. Recognizing the different types can help you choose the right one that caters to your family business's financing needs.

Here's a breakdown of some common types of family business loan agreements:

  1. Family member business loan agreement: This document serves as the legal contract when an individual family member lends money to the family business. It outlines the repayment terms, interest rates, and potential default's legal repercussions. Having a sound family member business loan agreement in place helps prevent financial misunderstandings that could harm familial relationships.

  2. Interfamily business loan agreement: In situations where one part of the family business lends money to another part, the agreement comes into play. It ensures transparency and fairness across different business operations, helping prevent potential intra-family disputes.

  3. Family subordinate loan agreement: This type of family member loan agreement to a business applies when a family member gives a subordinate loan to the family business. It details the conditions of the subordinate loan, such as repayment schedules and default repercussions, creating a clear record of the transaction.

  4. Friends and family business loan agreement: When a friend of the family provides a business loan, this agreement is typically used. Just like with family loans, it's crucial to lay down all the terms and conditions in writing to avoid misunderstandings or potential fallouts with friends.

You can leverage comprehensive templates at Lawrina to help craft a suitable agreement for each scenario. By choosing the correct type of family business loan agreement, you ensure smoother, more transparent lending procedures within your family business.

Family Lending vs. Bank Lending

When determining where to secure funds for a family business, there's a key decision to be made: family lending via a family business loan agreement or traditional bank lending. 

Family lending:
  • Flexibility: Family loans, documented with a family member loan agreement to a business, often offer more flexible terms with regard to interest rates and repayment schedules. This flexibility might make the loan repayment less burdensome and more manageable for the family business.
  • Availability: Family funds might be more readily available compared to securing a bank loan, particularly if the business lacks a strong credit history. A family business loan agreement is generally faster to process than a bank loan.
  • Relationship dynamics: The double-edged sword lies here. A family member loan agreement to a business handles transactions within the family, which could foster closer family relationships if executed correctly. However, if not managed properly, there could be potential familial conflicts.
Bank lending:
  • Structural clarity: A bank loan adheres to stringent loan processes and procedures. It leaves little room for misinterpretation, unlike the case in a family business loan agreement that might be influenced by family dynamics.
  • Credit building: Repayment of bank loans helps build the business's credit score, proving advantageous for future loan applications. In contrast, family loans documented via a family business loan agreement don't contribute to the company's credit history.
  • Impersonal approach: With a bank loan, the business relationship is purely professional. The worry of hurting familial relationships due to possible financial disputes doesn't come into play as it might in a family business loan agreement.

In conclusion, family lending and bank lending depend largely on the family business's unique circumstances. Understanding these attributes helps navigate the financing path. From managing family dynamics with a well-crafted family business loan agreement to following strict bank procedures, the choice could make a significant difference to the family business's financial health.

How To Create a Loan Agreement?

Creating a family business loan agreement involves a series of sequential steps. Proper knowledge and understanding of this process will ensure that your agreement serves its purpose of avoiding confusion and conflict while lending or borrowing within the family business. Here are the specific steps to consider:

  1. Define the loan: The first step is identifying the loan specifics. This includes the amount of money to be loaned, the purpose of the loan, and whether the loan is secured or unsecured.

  2. Determine repayment terms: Next, clarify how and when the loan will be repaid. Specify the repayment schedule and whether there will be an interest rate attached to repayment. It's also important to determine and document if there would be penalties for late repayment.

  3. Document material terms: Formalization of the agreement is an essential part of creating a family business loan agreement. All material terms of the contract need to be documented, including the names of the borrower and lender, the loan amount, and the repayment terms.

  4. Obtain legal counsel: Before finalizing your family business loan agreement, it’s prudent to seek legal advice to ensure the agreement complies with current laws. Consider consulting with experienced family law attorneys who can provide comprehensive guidance.

  5. Execution of the agreement: Once the agreement's terms and conditions are adequately defined, all parties involved must sign the agreement. It's advisable to have witnesses during the signing to provide added enforcement.

A time-saving approach to developing your family business loan agreement is to leverage relevant, professionally crafted templates such as the available family loan agreement template, which offers a solid starting point that can be customized to your specific needs.

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Benefits of the Family Business Loan Agreement Template

The key advantage of a family business loan agreement template is its standardization. The template offers pre-established elements incorporating industry norms and legal requirements, offering you the benefit of an expert structure. It could save you countless hours of research and troubleshooting.

Furthermore, a sample loan agreement family business mitigates the risk of missing out on essential legal contract components, especially for those unfamiliar with drafting legal documents. The use of a template reduces the chance of omission of crucial terms or language, making it more likely that your agreement will be robust and effective. 

Whether you're dealing with an immediate family member or a friend, using a friends and family business loan agreement template ensures that your agreement is comprehensive and legally sound. In essence, making use of a template goes beyond time-saving; it serves as a framework to help construct a thorough, legally compliant contract.


A crucial factor in maintaining family relationships while running a family business is clear communication and setting mutual expectations. This is where a family business loan agreement plays a significant role. It not only provides clarity on loans and repayments within the business but also helps manage expectations by detailing terms and conditions.

Furthermore, creating a family business loan agreement need not be a complicated process. Remember, by instating a comprehensive agreement, you are not only promoting a thriving business but also fostering stronger family ties. The agreement ensures fairness, transparency, and professionalism, keeping disputes at a minimum and familial harmony at the forefront.

Frequently Asked Questions

Can a family business loan agreement be legally binding?

Yes, a family business loan agreement can certainly be legally binding. In the U.S., just like any other loan agreement or contract, a family business loan agreement becomes legally binding when it includes crucial elements such as mutual assent (i.e., an offer and acceptance), consideration, legal capacity of the parties, and legality of purpose.


However, it's important to note that the agreement should be written, specific, and signed by all parties involved. To further enforce its legality, it's recommended to have the signing process witnessed. Always consider obtaining legal advice before finalizing the agreement to ensure all provisions comply with the current laws, adding another layer of legality to your family business loan agreement.


How can a family business loan agreement prevent disputes among family members?

One of the key purposes of a family business loan agreement is to prevent potential disputes among family members. Providing a clear outline of the loan details, including repayment terms, interest rate, and what happens if the loan terms are not met, removes ambiguity and sets expectations right between the parties involved.


More often than not, disputes arise from poor communication or lack of clarity in agreement terms. A well-crafted family business loan agreement addresses these issues by laying down all the specifics and clarifying each party's roles and obligations in the agreement. 


What happens if a family business loan agreement is breached?

Breaching a family business loan agreement, like breaching any contract, can have serious implications. The party that breaches the agreement can be held responsible for repaying the loan immediately or face potential legal consequences. 


This is because a family business loan agreement is legally binding, so not adhering to the terms set is considered a breach of contract. In case of such a breach, the non-defaulting party has the right to take legal action against the party defaulting on the contract.