The short answer is no, don't lend money to an estranged adult child. If you can't afford to give money to them (or if you choose not to), it may be better to avoid any financial involvement. If you can help it, don't become your child's creditor. As a creditor you're on the hook to take action if your child defaults.
No, it won't show up on ANYONE's taxes. Not yours, not theirs. It is a loan, not a gift, not income. There is no tax for issuing a loan, receiving a loan, paying the principal of a loan, nor receiving principal payment of a loan.
I am a legal expert attorney who will assist you today. If you lend money to your friend, you must have the terms of the loan written down, signed and notarized. If you've decided that you're going to insist on full repayment, draw up an agreement stating the terms of the loan. This is called a promissory note.
If you give money to your adult children now it won't burden them with taxes. You and your spouse can each give up to $18,000 a year to each of your children tax-free. Even larger gifts typically only count against your lifetime exemption, without your children owing taxes on the gifts.
The basic gift tax exclusion or exemption is the amount you can give each year to one person and not worry about being taxed. The gift tax exclusion limit for 2023 was $17,000, and for 2024 it's $18,000. That means anything you give under that amount is not taxable and does not have to be reported to the IRS.
You can essentially give any amount of money you like as a gift to family members, friends or other individuals – as long as you do not benefit from that action in any way.
The $100,000 Loophole.
With a larger below-market loan, the $100,000 loophole can save you from unwanted tax results. To qualify for this loophole, all outstanding loans between you and the borrower must aggregate to $100,000 or less.
If you lend the money at no interest, the IRS can consider the loan a gift, making you liable for gift taxes. The repayment schedule that the borrower must follow. State whether you'll require periodic payments, a balloon payment or some combination.
There may be tax implications.
If the money is a loan greater than $10,000, your loved one is required to charge an interest rate in line with IRS guidelines, known as the Applicable Federal Rate (the rate changes every month). Otherwise, the money is considered income that you can be taxed on.
The IRS mandates that any loan between family members be made with a signed written agreement, a fixed repayment schedule, and a minimum interest rate. (The IRS publishes Applicable Federal Rates (AFRs) monthly.)
Gifting to younger children or grandchildren follows similar tax rules as gifting to adults. You can gift up to the annual exclusion amount per child ($18,000 in 2024) without triggering gift tax. For larger gifts, use the lifetime exemption and file IRS Form 709.
For 2021, you can forgive up to $15,000 per borrower ($30,000 if your spouse joins in the gift) without paying gift taxes or using any of your lifetime exemption. (These amounts are the same as in 2020.) But you will still have interest income in the year of forgiveness. Forgive (don't forget).
While small loan amounts under $10,000 won't raise any red flags, significant amounts can trigger gift tax implications if you're not careful. Charging interest on these loans, documenting them properly, and understanding the exceptions can save you from unwanted tax consequences.
It may come as a relief to find out that, in general, you are not personally liable for your parents' debt. If they pass away with debt, it is repaid out of their estate. However, this means that debt repayment could diminish or eliminate assets and property you could have inherited from your parents.
Loans to minors: A minor is not able to enter a loan agreement, so if you want to lend money to a minor you'll have to make the loan to a trust for your child. Nevertheless, any income from property earned will be attributed back to you and taxed in your hands (unless you charge the prescribed rate on the loan).
There is no minimum interest rate you are required to charge, but you will be liable for taxes if you decide to give a below market interest loan to the IRS. This is because as a lender, you are expected to charge market interest and if you don't do so, you are in effect liable for the interest foregone on the loan.
A personal loan doesn't generally qualify as taxable income because it's a form of debt that must be repaid. Even though you receive all the funds at once, it's not considered income if you pay it back as agreed. That's true even if you use the proceeds for personal needs, such as paying for an emergency expense.
Different states have unique laws on whether a promissory note must be notarized. In New York, notarization isn't mandated for promissory notes to be enforceable. However, in California, while not explicitly required by law, notarization adds an extra layer of protection and legitimacy.
Any loan between individuals less than $10,000 is disregarded. If you charge interest less than the Applicable Federal Rate for a loan between $10,000 and $100,000, the difference is considered a gift for which you may have to pay a gift tax if your total gift tax for the year exceeds 14,000.
If someone else pays off your mortgage or another significant debt, it could be considered a gift under tax laws.
Loan terms
While a creditor may allow another person to pay off your debt, they might change the terms of that loan or general debt.
In some cases, using a trust can allow you to give to your children tax-free, while retaining limits on how the money is used or when they can access it. Trusts can also help you ensure that the money you gift to an individual is for their use only.
Bottom Line. The IRS allows every taxpayer is gift up to $19,000 to an individual recipient in one year. There is no limit to the number of recipients you can give a gift to. There is also a lifetime exemption of $13.99 million.