Every month the IRS publishes various prescribed rates for federal tax purposes. These are known as applicable federal rates or AFRs. These are often used to determine present values for annuities, remainder, and reversion interests.
The IRS publishes a set of interest rates called the applicable federal rate (AFR) each month. These rates are based on the market yields of various marketable debts, such as US Treasury bills. If lenders charge below the AFR rate, they face tax implications. AFR Rates August 2023 differ by loan term and compounding period. The IRS publishes short-term, mid-term, and long-term AFR rates. When a family member loans you money, it is important to make sure the rate charged matches the AFR rate for that month. Failure to do so could result in gift taxes.
If you don’t charge a high enough rate on a private loan to your family member, the IRS may consider it a gift instead of a loan. The AFR rate sets a minimum standard and ensures that private loans between family members are treated fairly. For example, let’s say you lend a family member $10,000 with an annual compounding rate of 1%. In this case, you would need to charge them $1000 in interest each year for the duration of the loan. This is because the AFR rate for 2023 for a year with one-year compounding is 4.30%. If you only charge them $500 in interest, the IRS may treat this as a gift instead of a loan.
