Are Employee Loans a Good Idea?

There are pros and cons to lending employees money that should be considered before going forward with loans.

Are Employee Loans a Good Idea?

Many employees ask their employers for a loan when faced with emergencies and financial difficulties. Asking an employer may seem to be a good idea for employees, as the employer may offer more favorable terms than a bank and will be able to line up repayment dates with paycheck dates. However, there are pros and cons to lending employees money that should be considered before going forward with loans.

Employee Loans Can Foster Loyalty

Employees that have received some type of assistance from their employer may be more likely to stick around. Knowing that the employer helped during their time of need and placed faith in them to repay the loan may make employees feel more committed to an employer. This may help with retention and job satisfaction.

Loans May Allow Employees to Focus on Work

If an employee is concerned about family medical bills piling up, overdue rent, or other financial concerns, it can make it difficult to focus on work. Lending an employee money to work through these difficulties may help that employee to improve work focus and productivity. Knowing that the employer loaned the money may motivate the employee to work harder, as well.

Repayment May Become a Source of Stress

Every situation varies, but if an employee asks for a loan in order to meet regular and recurring obligations like rent and utilities, extending a loan may do more harm than help. If the employee is already having trouble meeting obligations, adding another monthly bill on top of the other obligations may add stress. In this case, recommending financial counseling may be a better option than extending a loan that will likely not be repaid.

Loan Decisions May Create Discrimination Concerns

When extending loans to employees, it is important to review their financial criteria to assess their ability to repay the loan. However, even if one employee’s financial health makes them a better candidate for a loan than another, extending a loan to one and refusing another may set your company up for discrimination lawsuits. If the exact reasons for refusing a loan to one employee are not documented, it may make it possible for that employee to sue for perceived discrimination.

Lending May Increase Employer Tax Obligations

Lending employees money may set employers up to owe more in taxes if the loan is not done properly. Loans terms must be clearly detailed and the interest rate on the loan must be applied at the applicable federal rate and reported as income, in most cases. If the loan is not done properly, you may be subject to penalties or tax obligations, or you may even be charged with doing something illegal if the loan is not filed in the correct way.

Setting Terms In Advance May Serve As Protection

The best way to ensure that a loan will be repaid at a favorable rate is to set repayment terms along with the loan. Since the employee’s income comes from the workplace, a portion of the paycheck can be deducted automatically at agreed upon terms until the loan is repaid.
Whether or not employee loans are a good idea may vary depending on the health of the company and the financial literacy of the employee asking for the loan. Before extending a loan to an employee, it is important to look into all applicable laws and make sure that extending the loan will not harm your business in any way.

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