I have a friend whose new wife is paying an absurdly high interest rate on her auto loan. They've asked if I was willing to loan them money at a more reasonable rate to pay off that loan and have them pay me back instead. I'm fully aware that loaning money to friends is usually a terrible idea and I'd be an idiot to consider it; sadly, I am an idiot.
Still, I'm trying to do things as safely for myself as I can given my aforementioned questionable IQ. I'm planning to offer a starter loan, a relatively small loan just to see if they can stay consistent to paying off that loan before agreeing to a larger one. I'm also going to insist on a predefined monthly payment and that they set up an automated bill pay so neither of us needs to remember each month for them to transfer the money, and basically see if they can make consistent payments each month.
Neither woman has great credit rating, the new wife's is particularly bad, though mostly due to her youth, with my friend's rating being better but nothing great - sorry I don't know the exact numbers, but I know they have been declined loans when trying to refinance the auto loan so clearly not a great rating. I know their income is barely covering their expenses now, though some of this is due to extra costs they could easily cut if they chose - though even after they asked me to review their finances and I pointed this out, they have failed to cut out those costs. Convincing people to use money wisely is usually a doomed endeavor. They are also planning to have a baby in a year or so, maybe a little longer depending on how long it will take to conceive, which will obviously add to their total expenses.
I do believe they have every intent to repay a loan I give them, but obviously they would still be considered a somewhat high risk loan given their financial situation. I need to figure out what interest rate would be reasonable to charge them. I already know what my opportunity cost for the loan is, my question is how much should I add on top of that base opportunity cost to cover the risk inherent in such a loan. I'm asking specifically what the recommended amount would be if this were a business loan, mostly ignoring the friendship angle for now. I'll decide if I want to give more favorable terms than that to them after I know what would be considered a recommended rate given their situation. I'm not looking to profit, only to break even, but 'breaking even' has to factor in the potential risk inherent in the loan.
I don't yet know how long they will have to pay off the loan, we are scheduled to have a discussion later this week when I'll have to figure out what monthly payment they are willing to make - I personally think it would be in their best interest, and allow me to feel more comfortable with a larger loan after this, if I were to push them to commit to a high monthly payment on the first loan to help get their loans payed off before they have another child. I suspect they will be resistant to such a suggestion though. As such, I might need a recommendation for how to adjust interest rate based off what we decide for a monthly payment and thus length of time until loan is payed off.
In case anyone is interested, this whole question is moot. I ultimately calculated the lowest possible rate I could offer them for an unsecured loan, even with very favorable terms, is worse then they could get from a bank with a secured loan. Ironically, my very high allowance for risk due to my financial situation means I can invest in higher risk higher expected ROI situations that make my opportunity cost too high.
I couldn't realistically offer a secured loan to them, because there is no way I'd actually be able to bring myself to reposess their car even if I did have a legal right to do so; and besides which I want higher risk/ROI investments then that. So turns out their best bet is to get a secured loan from someone who is actually willing to collect on their loan if necessary, but who can offer an interest rate appropriate to the lower risk such a loan implies. Of course if I was really wanting to help them I could cosign the loan to offer them a noticeable lower rate, which would again bring me back to "I'm an idiot if I do this" territory ;)