Your small business probably relies heavily on a core group of dedicated employees to get things done. Those few critical people may seem like part of your extended family. They’ve shared your vision and helped you begin to realize it. During the lean years, the benefits offered by small businesses are less impressive that those available at large companies, so small business owners often use other methods to show their support. One potential perk for a dedicated employee is a low or no-cost loan.

Before you Loan Money to an Employee

There are two distinct camps on the topic of loaning money to employees — for and against.

The Advantages of Loaning Money to Employees

  • Offering a no-cost or low interest loan can engender loyalty and gratitude like few other employer gestures.
  • Extending a loan may mean the difference between keeping and losing an employee who’s struggling with financial issues like the loss of a vehicle or home.
  • Announcing that you are willing to make no-cost loans available can attract a higher caliber of employee to your company.
  • Making some loans, like for college tuition or to help an employee purchase a computer or transportation, could net you a more valuable or reliable worker.

The Disadvantages of Loaning Money to Employees

  • You may not get the money back. Employees are a big expense, and loaning money to an employee who doesn’t pay it back could be potentially devastating. Even if the loan amount isn’t the big issue, the loss of faith may be.
  • You may not get the money back without delays and unpleasantness. You might have to cajole or demand timely payments, and what started out as a way to cement a relationship and give someone a hand could cause wrath and acrimony.
  • If the employee leaves the company and stops paying on the loan, you may incur additional costs to protect your interests, resulting in more time, expense, and hassle than you’d bargained for.
  • You will probably have to make the option available to other staff members, even people you may not wish to include in the program. Showing favoritism is bad employee relations, and insisting on secrecy when making a loan can be almost impossible to pull off successfully. There are also potential discrimination issues you may need to consider.
  • If you make one loan, you may feel pressured to make others or lose employees who would have been satisfied with their lot if the issue had never come up. Once you’ve started loaning money, it may also be difficult to stop without alienating the very people you originally wanted to help.
  • If you suffer a downturn, you could end up wishing you’d used the resources for other things.

Some Suggestions Before You Make a Commitment One Way or the Other

  • Don’t become the company banker until you think it through. Loaning money to an employee can carry some risks in common with making loans to family members; the relationship may get in the way of what should be a clean-cut business transaction.
  • Don’t let your emotions cloud your judgment, even if you want to help a good employee with a real need.
  • Insist on a formal contract. Laws vary from state to state, and it’s important to consult with an attorney to make sure your interests are protected and all parties understand what’s expected. For example, in some states you can’t withhold money from an employee’s paycheck in repayment for a loan without his written permission.
  • Consult with your accountant to make sure you understand the tax implications.

Experience is a compelling teacher. If you’ve had a good experience loaning money to a family member or friend in the past, you may feel that the advantages of loaning money outweigh the risks. Be consistent and objective in whatever you decide, and have your legal and tax representatives explore the issues with you.

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