What are the guidelines for a loan between private parties?

Question

In the United States, I am considering a deal with a very close friend that would involve a loan. Please no answers warning about the potential emotional problems this poses. It's not a concern.

I'm fairly certain that I'm required to charge interest and, then, to report the interest as income.

This loan will be three year or less, in the amount of around $50k. It is for an investment.

Are there IRS guidelines for the structure of these loans? Is there a minimum interest rate? Does it need to be compounded monthly?

Answer 1

In order to not be considered a gift, the appropriate Applicable Federal Rate must be charged. This varies by the term of the loan; short term is 0-3 years, medium is >3-9, long is >9+.

Investopedia discusses this a bit more, particularly including the time periods.

In your case, of course check the AFR for the month in which it's lent, but it will be around 0.45% annually compounded (give or take a bit). They've been going up lately, so pay attention (or charge a bit more to be safe).

You can also read the IRS regulations here, in publication 550.

And as David's answer states, you must declare all interest as income.

Answer 2

Here's some good info: http://finance.zacks.com/pay-taxes-interest-collected-personal-loan-10164.html

"Interest from a personal loan is always reported on the “Taxable interest” line of your return. But if your total interest income for the year – not just the interest collected on the loan – is more than $1,500, you'll need to report it on a Schedule B attachment to your return. Schedule B just requires some of the details surrounding your interest earnings."

However, it looks like if the loan is less than $10k (and it's not used to invest) then you are free to charge below-market rates without tax implications.