Published on: 07/16/2025 • 8 min read
Using an Intra-Family Loan for Tax-Efficient Wealth Transfer

Ultra-high-net-worth families face a persistent challenge: preserving generational wealth. How do you transfer substantial wealth to the next generation without surrendering a significant portion to estate and gift taxes, while still maintaining some level of control and income from your assets? There are countless strategies meant to address this challenge, but one advanced estate planning strategy that can help with wealth preservation is an intra-family loan:
- This type of loan is a formal agreement between family members, set at the IRS-required interest rate (called the Applicable Federal Rate or AFR).
- If the investment returns are higher than the AFR, the extra growth can go to heirs tax-free.
- The lender also receives regular payments, which provide income while gradually moving wealth out of their taxable estate.
- When used with other estate planning strategies, intra-family loans can lead to major tax savings and long-term wealth protection.
Setting up an intra-family loan can be complex, with strict IRS rules to adhere to and careful planning to execute. At Avidian Wealth Solutions, our team has the experience and knowledge to guide you through this process and create a strategy that works to fit your family’s goals. Schedule a conversation with us to see how an intra-family loan could be a key part of your overall wealth transfer plan.
What are the IRS rules for intra-family loans?
The Internal Revenue Service (IRS) has established specific requirements under Section 7872 of the Internal Revenue Code to govern below-market loans between family members. These IRS guidelines for intra-family loans ensure that legitimate lending arrangements between family members are treated properly for tax purposes, while also preventing gifts from being disguised as loans to avoid gift taxes.
Here’s the breakdown:
Applicable federal rate (AFR) requirements
The cornerstone of IRS rules for intra-family loans is the requirement to charge at least the Applicable Federal Rate (AFR), which the IRS publishes monthly. There are three AFR tiers based on the repayment term:
- Short-term rates for loans up to three years
- Mid-term rates for loans between three and nine years
- Long-term rates for loans greater than nine years
The AFR is determined by considering economic factors like US Treasury obligations from the previous month.
While the AFR rate changes each month, the rate for an intra-family loan is fixed for the entire loan term based on the interest rate established during the month the loan closes. If you charge below the AFR, the IRS may reclassify your loan as a gift and require you to pay tax on the interest you never received.
Documentation requirements
To satisfy IRS guidelines for intra-family loans, proper documentation is essential. The IRS requires intra-family loans to have a written agreement that establishes a formal relationship between the lender and borrower. You need to have a written document that shows the maturity date for the loan, the repayment schedule, the collateral for the loan and the principal and interest payments.
The loan agreement should include:
- Legal names of both parties
- Principal amount
- Interest rate (at least the AFR)
- Payment schedule
- Maturity date
- Any collateral or security provisions
Section 7872 loan categories
Under Section 7872, the IRS applies these rules to gift loans (where forgoing interest is in the nature of a gift), compensation-related loans, corporation-shareholder loans, and other below-market loans that have a significant effect on Federal tax liability.
For gift loans directly between individuals, Section 7872 does not apply to any day when the aggregate outstanding amount of loans between such individuals does not exceed $10,000. However, this exception does not apply to any gift loan directly attributable to the purchase or carrying of income-producing assets.
Tax implications
The lender must report interest received on the loan as taxable income, while borrowers don’t pay taxes on a family loan, and they may be able to deduct interest charges on the loan from their federal income tax return in certain circumstances, such as when the loan is secured by real estate.
Behavioral requirements
The IRS looks at whether the loan obligation was repaid, and if the lender and borrower observed the formalities of the loan terms and acted as unrelated lender and borrower would. It is not enough to execute a promissory note; the parties should generally conduct themselves to show a proper debtor-creditor relationship.
What is the difference between a gift and an intra-family loan?
When considering the different avenues you can take for efficient generational wealth transfer, it’s important to recognize that gifts and intra-family loans serve different purposes. While both methods can transfer assets to family members, they have fundamentally different legal, tax, and financial implications that can significantly impact your estate planning objectives.
Legal structure and obligations
A gift represents a permanent, irrevocable transfer of assets with no expectation of repayment, while an intra-family loan creates a formal creditor-debtor relationship requiring repayment according to specified terms. The loan must charge at least the intra-family loan rate established by the IRS (the Applicable Federal Rate) and include proper documentation, whereas gifts have no such requirements beyond potential tax filings.
Tax implications
Gifts immediately reduce the giver’s estate for tax purposes but count against annual exclusions ($19,000 per recipient in 2025) and lifetime exemptions ($13.99 million in 2025, but reducing to approximately $7 million in 2026). Intra-family loans, when properly structured, avoid gift tax consequences entirely while generating taxable interest income for the lender. Any investment returns exceeding the AFR effectively transfer to the borrower tax-free.
Estate planning impact
Gifts provide immediate estate reduction and potential benefits of an estate freeze by removing future appreciation from the donor’s taxable estate. Loans keep the principal amount in the lender’s estate but allow wealth transfer through the “spread” between the AFR and actual investment returns. This makes loans particularly valuable when you expect the borrowed funds to generate returns exceeding the required interest rate.
Flexibility and control
Gifts offer no ongoing control or income stream to the donor, while loans provide regular interest payments and the ability to potentially forgive payments later (which would then be treated as gifts). Loans can also be structured with dynasty trusts or other vehicles to enhance their effectiveness in multi-generational planning.
Repayment and forgiveness
With gifts, there’s no repayment obligation, but with loans, the borrower must make scheduled payments to maintain the loan’s legitimacy. However, lenders retain the discretion to forgive loan payments, effectively converting portions of the loan into gifts over time while staying within annual exclusion limits.
The choice between gifts and intra-family loans depends on your specific circumstances, including current interest rates, expected investment returns, estate tax exemption timing, and your family’s cash flow needs. Many sophisticated estate plans utilize both strategies in coordination to maximize wealth transfer efficiency.
How to use an intra-family loan
The process of setting up an intra-family loan involves more than simply transferring money between relatives. It demands proper structuring, documentation, and ongoing administration to create a legitimate lending relationship that can serve as one of the most effective generational wealth transfer strategies available to high-net-worth families.
- Determine the loan amount and purpose: Assess your family’s financial needs and your capacity to lend, considering factors such as the borrower’s intended use of funds, repayment ability, and how the loan fits into your overall estate planning objectives.
- Select the appropriate AFR and loan term: Choose the loan duration (short-term, mid-term, or long-term) based on the borrower’s needs and lock in the current month’s Applicable Federal Rate, as this rate will remain fixed for the entire loan term.
- Draft the intra-family loan promissory note: Work with qualified legal counsel to create a comprehensive written agreement that includes all required terms: principal amount, interest rate, payment schedule, maturity date, default provisions, and any security arrangements.
- Establish proper security (if applicable): For real estate purchases or other secured transactions, record liens or other security interests to protect the lender’s position and enable the borrower to potentially deduct interest payments.
- Set up separate loan administration: Create dedicated accounts for loan payments and maintain detailed records of all transactions, including an amortization schedule showing principal and interest components of each payment.
- Execute the loan transaction: Transfer funds to the borrower and ensure both parties sign all necessary documentation, treating the transaction with the same formality as a commercial loan.
- Maintain ongoing compliance: Collect payments according to the agreed schedule, report interest income on tax returns, provide necessary tax documentation to the borrower, and avoid any actions that might suggest the arrangement is actually a disguised gift.
When loaning money to family, it’s important to not only set up the loan correctly but also stick to the agreed terms and keep proper records. This helps make sure the IRS recognizes it as a legitimate loan, not a gift — so you keep the tax benefits while helping your family with better interest rates than a bank would offer.
Is your wealth transfer strategy leaving money on the table? Let’s talk.
An intra-family loan represents a powerful yet often underutilized tool for high-net-worth families to transfer substantial wealth while helping to minimize gift taxes and maintaining income streams. When properly structured, these arrangements can significantly outperform traditional gifting strategies by leveraging the spread between AFR rates and investment returns.
At Avidian Wealth Solutions, we help affluent families throughout Houston, Austin, Sugar Land, and The Woodlands navigate the complexities of intra-family lending as part of comprehensive generational wealth management strategies. Our experienced team understands IRS regulations and can design approaches tailored to your family’s unique circumstances and long-term objectives.
Don’t let current market conditions and evolving tax legislation pass without exploring how these strategies could enhance your estate plan. We invite you to schedule a conversation with our team to discover how an intra-family loan could work for your family’s specific wealth transfer goals.
More Helpful Articles by Avidian:
- How to Choose a CPA for Your Business
- The Difference Between DAFs vs. Foundations
- Family Limited Partnership Advantages in Estate Planning
- 9 Risks of Naming a Family Member as a Business Successor
- What Happens to a Business When the Owner Dies?
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