In order for this to be considered a non-gift loan by the IRS, it is necessary to charge a minimum interest rate that is connected to the prime interest rate and the term of the loan. This website does a really good job explaining it.
http://www.nationalfamilymortgage.com/afr-rates/If we did this, we'd go with a 2% loan with a 5 year term. We would draw up a formal contract that spelled out all the terms, including late payment fees, structure for defaulting, extra payment calculation, etc. There are even templates you can purchase online for about $10 that guarantee to meet all the relevant federal and state conditions for legal loans. On top of all that, the lender would also have to report the interest portion of our payments as income when she filed her taxes.
On the personal side, this was something she freely offered unsolicited by us. However, I think part of the motivation for making this offer stems from the fact that there are numerous relatives among our circle who have a dysfunctional relationship with money. There seems to be this undercurrent of belief that all money is family money regardless of who earned it. This is not a belief we share and I cannot help but worry that accepting an offer could in some ways entangle us in this dynamic. I am almost certainly making this more ominous than it actually is.
Tackling these loans on our own would make us very proud, but pride is a vice too. As simonsez pointed out, a $1,000 is not an insignificant amount of money. Not everyone gets the chance we have now. The last thing I'd want to do is make an obviously nonsensical decision just because it's the "proud" choice.
As it is, I'm still getting the vibes that there's really not an overwhelmingly right choice, so I'll probably go with my gut and my husband's preferred choice and not accept the loan.
(I'd also like to apologize for such an overly flowery post. I read a lot of Jane Austen this weekend and I think it's starting to mess with my head.)