How to Loan Money to Make Money
By Steve Gillman
What if you have saved a bit and you want to loan some of
your money out for a decent return? Loaning it to your bank (that's
what you do when you put it there) is not one of the better ways.
Loaning to get a 20% annual return... now that's more like it.
How do you do that? There are actually a number of ways. Given
the nature of this website, we will look at some of the less
common ways to do this.
You may have heard about the organizations which do micro-loans
in poor countries in order to help people start or expand their
small businesses. These loans are sometimes for as little as
$100, which can, for example, buy a used bicycle that doubles
the amount of vegetables a vendor can bring to market. What is
not common knowledge is that the interest charged on these loans
is often at a 15% annual rate or higher. This is to cover transaction
costs; there is still paperwork to do for even a $100 loan, after
If you want to do something similar in this country, you might
try going to flea markets, where there are always cash-strapped
vendors. Ask around, and see if any of them need $500 or $1,000
to try stocking a new item for sale, or to buy better display
racks, or for anything that might increase their sales. You can
probably charge 2% per month on loans like these. This is an
untested idea, by the way, and perhaps the riskiest way to loan
money covered here. On the other hand, you could take car titles
and other things as collateral to make it safer.
You can loan money to complete strangers through "social
lending" websites, and make interest of up to 20% or more.
The advantage of these systems is that the company which runs
the site does the credit check for you and handles collection.
Another big advantage is that you can buy just a part of many
loans, to spread the risk around. For example, on a loan of $6,000
you can contribute as little as $25. Do that on 40 different
well-vetted prospects and you will have loaned out $1,000 with
little chance you will lose much through defaults.
One of the social lending sites which is well-established
Buy for Others Using Credit Cards
I knew a woman who used to buy things for her friends using
her credit cards. They would pay her back when they got their
next paycheck or welfare check. Now, if she paid her card balance
off every month there would not have been any interest charges.
In the meantime she could have asked her friends for a 5% "purchase
fee" for each transaction. It essentially would have been
a loan with 5% interest for the week or month before it was paid.
and the money lent was the credit card company's!
If you try this, be sure you have friends you can trust. Are
you taking advantage of them? That depends. If a needed kitchen
table is on sale for 20% off, your friend might be better off
to get it now and pay you 5% extra when he pays you in a week.
Since the money you lend is really that of the credit card company,
there isn't even a way to figure a return on a loan like this.
Playing Mortgage Banker
There have been times recently when banks are not loaning
easily on property that people already own, even if they own
it free and clear. Banks have their formulas and regulations
that prevent them from being a useful as they once were. As a
result private lenders are filling the gap, but at relatively
high interest rates.
If you want to try this, the rate you charge is up to you
(within the law). It may be worth it to someone to pay 20% interest
if he only needs the money for a year or less, or if he can make
an even better return using the money borrowed. You can offer,
and they can say yes or no.
One investor who does this has two rules he goes by when making
these loans, and they seem like good ones to me. The first is
to always be in "first place," meaning you have the
first mortgage on the property, so you recover what is owed from
it before anyone else has a claim. The second rule is to loan
no more than 60% of the value of the property mortgaged. That
keeps you relatively safe (but have an attorney review at least
the first deal or two you make). So if a man wants to borrow
to expand his business, and his home is owned free and clear
and is worth $80,000, you would loan him no more than $48,000.
You can choose to have a fully amortized loan with regular
monthly payments for many years, or one with a balloon payment
due at some point. You might loan the money and charge nothing
monthly, with the whole amount due with interest in a year. You
could charge just interest every month, with the whole balance
due at some deadline. Basically you can make whatever arrangement
works for both of you.
You might want to use an appraiser the first few times you
loan money, as you learn how to put a value on real estate. Keep
in mind that even appraisers are just guessing at what a property
will sell for, so it's worth learning how to judge market values
yourself. Look at properties with "for sale" signs
on them, research enough to guess at the value, and then see
what the asking price is--but check back to see what they actually
sell for. This is good practice for judging value, and your guesses
should get better in time. Here is a good resource that explains
how to determine market value:
What About Ethics?
Many readers will feel uncomfortable charging high rates of
interest when they loan money. This is in part because people
are not always sure about the ethics of doing so. Let's look
at this for a moment.
Is it unethical to charge high interest? Are you unfairly
taking advantage of someone when you do so? You will have to
decide that for yourself on a case-by-case basis. But in my thinking,
the purpose of the loan and the likelihood of it fulfilling that
purpose are more important ethically, than the rate of interest.
In other words, even at 6% annually interest I wouldn't want
to loan money for a man to buy drugs or even to buy a television
he truly can't afford. On the other hand, if I loan a friend
$3,000 to buy a car he can fix and sell for $6,000, and I charge
him $300 in interest for two months (that's a rate of 60% annually),
I think we would both be okay with that.
You can't always know that your loan will actually better
someone's life, but you can often see with some certainty that
to loan money to this or that person will only make matters worse
for them. Avoid the latter types of lending and you are probably
Other Ways to Loan Money
Here are a few other ways you can make money lending money...
Be a Pawn Broker - You can start informally by lending
money to people you know while holding televisions and jewelry
as collateral. Lend no more than 50% of what you think you can
sell the collateral for.
Be a Hard Money Lender - These lenders provide loans
to real estate investors, taking back a mortgage on the properties
bought with the money. You can charge up-front fees of 5% and
high interest, usually for loans on fixer-uppers that will be
renovated and sold within months. There is more about this here:
Loan to Friends and Family - This works well if you
have the kind of friends and family that are business-oriented
and trustworthy. In my mind there is nothing unethical about
making a profit lending to a brother or daughter if he or she
can use the loan in some productive way.