THRIVING IN A HIGH-RATE ECONOMY

THE DAYS OF HOW-LOW-CAN-YOUGO INTEREST RATES ARE OVER. THAT PRESENTS CHALLENGES FOR BORROWERS-AND OPPORTUNITIES FOR INVESTORS

The First National Bank Of Grandma

WITH INTEREST RATES RISING, MORE PEOPLE ARE BORROWING FROM THEIR PARENTS-OR GRANDPARENTSTO GET A FINANCIAL BOOST NOW. DOING SO BRINGS FUTURE BENEFITS, TOO.

KELLY PHILLIPS ERB

Ever since the Federal Reserve started fighting inflation by driving up interest rates, banks’ prime rate, on which so much adjustable and short-term loan pricing hinges, has climbed from 3.5% in March 2022 to 8.5% now. That has pushed unsecured personal loans above 12% and average credit card interest above 21%. Thirty-year fixed mortgage rates have been flirting with 8%, up from under 3% in 2021. Those unpleasant numbers, combined with favorable tax rules governing intrafamily loans, make borrowing from the Bank of Grandma a savvy option for many well-off families, particularly if the older generation is sitting on gobs of cash.

In addition to a healthy family dynamic, the keys to making these loans work are planning, paperwork and, most importantly, insisting that Grandma charge the current “applicable federal rate” (AFR)—the minimum fixed interest a private lender must levy on a new loan to avoid unwanted tax complications. In December, the AFR was 5.26% a year for loans of three years or less; 4.82% for midterm loans of up to nine years; and 5.03% for longer-term loans such as 15- and 30-year mortgages. They represent “a really excellent alternative to prime rates,” says Laura Mandel, chief fiduciary officer at the Northern Trust Company in Chicago.