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A family friend of mine is an accountant and his company allows him to buy discount shares. He is asking me for $7000 to invest, and we will split the profits 50-50.

I don't have $7000, but I can get it as a loan with a much lower interest rate than him because I have a better credit rating.

He says there is minimal risk and that the returns are guaranteed to be 25%.

Should I take out a loan and give it to my friend to invest on my behalf?


Edit: By "family friend" I mean a good friend that I and my family have known for a long time (not a stranger)

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    "Accountant with bad credit rating" is like saying "fitness instructor with an obesity problem". – DJClayworth Mar 10 at 19:26
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    It's just anecdotal evidence, this is why I post it here: I know of someone who made a very shady business deal with the mob which failed horribly, and so he ended up with a huge debt to them. He then proceeded to borrow the money from friends and family under very similar pretexts as in this question. He even asked them to not tell it to anyone else, so he managed to borrow a lot of money from many of them, several thousand at a time. He was fearing for his very life, so he rather risked alienating his friends and family, they would maybe shun or at most sue him, but probably not murder him. – vsz Mar 10 at 20:03
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    An accountant who uses the phrase "returns are guaranteed to be 25%" is a liar. – Dawood says reinstate Monica Mar 11 at 5:39
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    I'm going to leave the comment, because it didn't imply that either accountants with a bad credit rating or fitness instructors who are obese are always bad, just that they should be a cause for closer investigation. I'm pretty sure your friend expects people to ask questions before taking fitness advice from him. – DJClayworth Mar 12 at 12:56
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    If anyone wants to discuss @DJClayworth's comment further, please take it to meta rather than re-flagging. We can only accept or decline flags which lacks nuance. – GS - Apologise to Monica Mar 12 at 20:17

11 Answers 11

138

Sorry if it seems to be nitpicking, but what does “family friend” mean? I have come to understand the spectrum of friendship to be; an acquaintance will send you an email congratulating you on your move. A friend will bring you a house-warming gift. A good friend will help you move. Your best friend will help you move a body. With all the questions that we get here that talk about scams, I may be overreacting to your expression, “family friend“, but to me it is a bit ambiguous. I’ll set that aside for now.

An annual return of 25% and the phrase “minimum risk“ do not go hand-in-hand. If the friend has access to buying his own company shares at a discount but somehow is unable to make an investment that will return 25%, he is not an accountant I would ever want to go to. Please pardon my sarcasm, but if I ever had such an investment I would not need to ask anybody for help to fund it.

For the sake of full understanding, look at other recent questions that talk about ESPP, employee stock purchase program. If one is able to buy shares at a 15% discount, and sell the very day that shares hit the account there is, in fact, is 17% return on the money invested over that three-month average holding. One invests $85 to purchase the $100 in stock, so the return is 100÷85= 1.176 or 17.6%. And the money is typically accumulated over six months for an average holding time of just about three months. This is the one time that I can make the case that a high return actually does follow a minimum risk situation if that is what your friend is suggesting. But he also misrepresents or misunderstands how to annualize such a return.

In the end I’d say I would stay away from mixing money and friends.

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    You had me at "Your best friend will help you move a body." – TTT Mar 10 at 18:03
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    Also, another important thing to note if that the friend is giving you bad financial advice, they are either dumb or not actually your friend. – PyRulez Mar 11 at 3:25
  • It might be something like what my company offers to its employees: Buy stock now (invest monthly some amount over a year), hold for another two years, get half of the held stocks as bonus at the end. This reduces risk (and increases the potential for gain), but is still not totally riskless (if the stock goes down a lot, you still lose). – Paŭlo Ebermann Mar 11 at 8:50
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    Not a bad answer but the 50-50 split is clearly predatory and I think that needs some attention. – JimmyJames Mar 11 at 17:08
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    A better friend than your best friend will help you produce a body... – Hosch250 Mar 11 at 17:50
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In general, borrowing money to invest is a risky proposition for a very simple reason: investments can go down in value, while the loans you had to take to make the investment absolutely do not go down in price if the investment didn't work out. So you have a guaranteed cost, but never a guaranteed return.

That said, there are a number of red flags here beyond the general facts of investment.

For one, a "family friend" is always a warning sign, because its an overly optimistic way of saying "someone I don't personally know very well". If there are people in the family who know them personally enough to be a "friend", and not a "family friend", then they are in a far better position to judge if they should lend money to them - so let them be on the hook for $7k if they are so trustworthy.

Second, an accountant is a professional position, and should be making a large enough salary on their own that investing or getting loans on the order of a few thousand dollars should not be a stretch. If they need to ask you for $7,000 to invest, this strongly suggests they are not in a position to be trusted to handle your money.

Third, "guaranteed return" is a huge red flag, because in this situation there is 0% meaning to this statement. Even if they had access to an Employee Stock Purchase Plan where they could purchase stock at a discount (and the guarantee is not on the return on investment here either, and any guaranteed is only to them - there is no possible guarantee to you, other than their promise to pay you).

If their promise to pay was of so much value they could get a loan from a bank, or cash advance on their credit cards, for this amount of money as an unsecured loan and then they would get to keep 100% of the profits. That they have exhausted easier sources of funding suggests anything they promise you is likely to be based purely on "gee, I hope they pay me back" and that's about it.

Given this, it is extremely disturbing that a financial professional such as an accountant would claim that lending them money in such an unsecured fashion could be called having minimal risk or a guaranteed return, and this suggests they are either incompetent or fraudulent. Sure, there is probably little risk to them, but that's clearly not how you were supposed to interpret any such statement. In neither case would it be a good idea to give the person money.

Finally, never risk money you cannot afford to lose. Given the fact that you do not have $7,000 to invest, you cannot afford to lose such a sum by definition because you do not have it - and borrowing it is not the same as having it. If the deal goes bad, how long will it take you to pay off that loan - how unpleasant would that be, and how long would you need to be reminded of their dishonesty and your mistake?

I can think of an awful lot of better things to do with $7,000, and I bet you can too!

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    Nice. You typed a bit faster than I could dictate a response, but you hit great points including the “friend” issue. Very happy to see that here, great minds think a like. – JTP - Apologise to Monica Mar 10 at 17:34
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    I like your point that if this is such a sure thing then "Why isn't the account borrowing the money and keeping 100% of the profits?" – MaxW Mar 10 at 19:35
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    And the obvious answer is, @MaxW, is because then he, and not Joe, would be absorbing the supposedly non-existent risk. – Malvolio Mar 10 at 19:38
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    "I can think of an awful lot of better things to do with $7,000, and I bet you can too!" And it's $7,000 plus interest in this case, given the loan involved. – reirab Mar 11 at 8:30
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    Just a small anecdote - my boss convinced me into buying ESPP shares of company we were working in, because of 33% discount. I bought them at 24 EUR a stock, when they were 36 EUR each on the market. Had to hold them for 6 months. I sold them as soon as possible for 12 EUR a piece. He said I was stupid to sell them at that point, at loss. Year later they were at 2 EUR... 2008 was a bad year to invest into bank shares ;) – Artur Biesiadowski Mar 11 at 10:16
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In poker, you do a thing called "counting outs". That is, you count the number of cards that are still in the deck that, if you draw one of them, you will have a winning hand. "There are four 4s that will give me a straight, there are nine hearts, including the 4 of hearts, that will give me a flush, so there are 12 'outs' of the 47 cards lefts."

In life, you often need to count the ways you can lose:

  • this person might be scamming you. The most obvious possibility is that he is launching a Ponzi scheme, but there are many others. For all you know, he's planning to simply keep the money and tell you the investment didn't work out.
  • the person might legitimately believe he has a good opportunity, but he could be wrong. Anyone who says "minimal risk / guaranteed returns", if he isn't scamming you, is obviously not very bright.
  • even if, by some miracle, the investment pays off (or just returns your money without interest), how exactly do you force this person to give it to you?

I don't have $7000, but I can get it as a loan with a much lower interest rate than him because I have a better credit rating.

Accountants in the US earn an average salary of $77,920. This one is promising to pay you 12.5% interest (over an unspecified amount of time), because no one will lend him money at that rate?

If the investment will take a year, that's more than a credit-card would charge someone with good credit.

So institutions like banks and credit-card companies don't trust this guy much. Why should you?

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    So institutions like banks and credit-card companies don't trust this guy much. Why should you? Man that's good. – IEatBagels Mar 12 at 20:51
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There's something else others have not yet mentioned:

You are taking the financial risk and he wants to split the profits fifty-fifty?

If he does not even have the insight that this is very un-bussineslike, that's another reason not to go into business with him.

And what about guarantees like you getting your money back first in case X, Y, Z...? But maybe you left that out of the question.

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    That's an important point - there's "minimal risk" for him because OP is the one putting op the money. – StrangerToKindness Mar 11 at 14:17
  • His friend provides with the opportunity to make money. The entire hedge fund business is based on "you give me money and I try to make more money from that, then we split the profits" – jf328 Mar 12 at 12:58
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    @jf328 If a hedge fund claimed that you could get a guaranteed 25% return, I would be immediately skeptical though, wouldn't you? – JMac Mar 13 at 12:03
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Think about it for a minute. There is no such thing as a guaranteed 25% return on a legit investment. Besides, it's actually 12 1/2% with you two splitting. And why does this savvy accountant have a crummy credit rating? The only thing guaranteed here, and it's 100% guaranteed, is that $7000 is going out the door, plus interest. What do you suppose the guarantee of a profit is? If you want to remain friends with this guy, walk away now.

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I used to help large banks set up arbitrage centers to help them make "free money" based on timeliness and technical advantages. Your story though makes no sense.

  1. This might have been a thing 20 years ago, maybe even 10. But now this is so common that when companies do have arbitrage situations (less do to extreme tech competition in the financial services industry) they are for sure not funneling this to their employees (well not at an "accountant" level).
  2. Given #1 the only way you can get a high return compared to the market is... get lucky, insider trading, or more risk.
  3. If all of this were true, your friend with bad credit would for sure take out a huge loan even at extravagant interest rates. If I knew I would make 25% FOR SURE then I would take out a million dollar loan at 15%. Why not?

Let me tell you how this is going to go down if you do it.

Your friend puts your money into some high risk situations. He earns some sort of compensation or fees from each transaction. He gets that money. If he gets lucky and does well he then takes half of your profit. If he loses your money he still gets paid for your transactions. No matter what he set you up to be the loser. You lose even if you win because you took a large risk for a medium reward.

I am being nice in the scenario above - the nicest. There is a good chance your friend also has a scheme he already went through where he funnels your money through normal transactions or just commits so many transactions that fees destroy the account.

My answer to said friend is - given you feel they have collateral - I will give you a loan for 7000 at 12.5%. Since you think you can make at least 25% you will be ensured MORE THAN HALF. Make sure there is a rider in the simple contract that they cover all of your attorney expenses if there are collections involved or missed payments.

(Note that whenever giving a loan to a "friend" that isn't the closest you put in stipulations that collections/court costs are paid by loanee. In real world US unless this person is insolvent without a job for 5 years plus you are getting your money eventually. Judge/court doesn't care about your money but everyone cares about the lawyer getting paid - judges were lawyers. So said friend, even working at McDonald's will have his wages garnished until you and lawyer are paid and usually quite aggressively. **Smart person tells this to lawyer and tells lawyer that they must recover loan before lawyer is paid.)

6

He says there is minimal risk and that the returns are guaranteed to be 25%.

Walk away.

Should I take out a loan and give it to my friend to invest on my behalf?

No, you shouldn't.

Since it sounds like you are going to do this anyway, here's some advice that might help mitigate the damage...

At a minimum:

  1. Make sure you know the rate of return.
    If you lay out 7,000 and get back 8,750 in one year that is 25%. But if you lay out 7k and get back 8,750 five years later that is only a 4.6% annual return (which is good, but not good enough to borrow money on).

  2. Make sure your principal is returned whether the investment pans out or not.
    He says it is a guaranteed thing... so you should have an agreement in writing that you get back $7,000 plus profits and that the first 7000 is paid to you.

  3. Make sure you agree about the taxes. If it is all in his name, he pays the taxes on it - does that come out of your share, if so, how?

TL;DR
Don't do this

5

At best you are being told half the story, and he's hiding the bits you aren't supposed to discover till after you have been stung.

The return on this "investment" is supposedly guaranteed to be 25%. How long does it take for that to materialize? A typical "low-grade-employee share purchase scheme" in the UK says you can lock into a discounted purchase price now, but you can't actually sell the shares till later, and that may sometimes by 5 years later. Even if the "25%" is realistic, "5% per year" doesn't sound quite so impressive.

If the 25% is a short term gain, is your friend (and an accountant, no less) really unable to get a loan at less than 25% from anywhere? Why does he want to give up half the profits to you - except to avoid putting any of his own money at risk, or course.

If you already had the $7,000, I would suggest that you withdraw the money in cash, make a bonfire somewhere, and use the banknotes to light it. That will probably give you as good a financial return as this "investment", and you also get the fun of lighting a bonfire, which you won't have when your "friend" loses your money for you.

IMO the only thing you are going to get out of this "investment" is the cost of paying back a $7,000 loan that you don't need. Oh, and you will probably lose your so-called friend as well - but from what your OP tells us about him, that doesn't sound like much of a loss to me.

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    I want to point out that that a 25% gain over five years is not "5% a year". It's 4.6% a year. You don't divide 0.25 by 5 — you take the fifth-root of 1.25, yielding 1.045634. – Malvolio Mar 10 at 19:41
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    @Malvolio only if it's compounding intrest, if they pay you 5% each year it is – Jungkook Mar 11 at 12:05
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The answers here are way too kind. The "family friend" is a con artist. Anyone offering "guaranteed 25% returns" on an "investment" that puts the person they're asking in a risky financial position is a con artist. Don't just decline to take out the loan and participate in the scheme. Cut this person out of your life.

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Taking a loan on someone's behalf puts you in a situation which is very similar to cosigning for a loan. Technically, it's even worse because in your case you alone are on the hook for the payments, but since your friend's credit score is already trashed, there's no practical difference.

Pretty much all the arguments against cosigning also apply to your case. "If the bank doesn't trust your friend, why should you?", "Don't mix friends and money", "Be prepared for this to be a gift", "Favours like this go way beyond friendship" etc. etc.

2

You certainly can do this.

What you do is make this an official loan, with him signing a note, with a promised return of 25% at the end of one year in a balloon payment.

Of course, 25% may well be considered usury, so you need to check this out.

And this, of course, raises a very interesting question: why hasn't he simply take out a loan? Interest rates are very low these days, so he should have no trouble getting a home equity loan and profiting handsomely.

The fact that he has not done so suggests that you need to be very, very careful here.

While I said that you can certainly do this, I did not say it's a good idea.

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    The friend wants to split the profits, so you'd charge an APR of 12.5%. Of course, if you're taking out a loan yourself to finance the deal, the interest on that loan will eat into your profits, and you'd be taking on all of the risk that the bank didn't want to take on your friend, based on their shabby credit rating. – CactusCake Mar 11 at 15:12
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    And when the "friend" fails to pay you back despite the official loan, you are still on the hook with your bank for the loan you took out. This doesn't provide any real protection. – chepner Mar 11 at 15:20
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    @chepner - Not quick protection. But it allows you to sue him. – WhatRoughBeast Mar 11 at 16:02
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    Great, and you win, and a judge orders him to pay you back. And he just doesn't have the money, and you can't collect. Let's hope your own loan had a "can't pay until someone else pays me back" clause. – chepner Mar 11 at 16:10
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    @WhatRoughBeast: Meanwhile the bank puts a lien on your house. – R.. Mar 13 at 15:21

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