Peer to Peer Lending
Peer to peer lending sites and lending partners, such as SoFi, Lending Club and Prosper enable you to earn up to 7 percent on your cash savings. To understand peer to peer lending, you need to know what it is, how it works and the advantages it offers.
Essentially, peer-to-peer lending partners bring individual lenders and borrowers together, thereby bypassing traditional banks. The main idea is that everyone gets a better rate at the end of the transaction – lenders will receive more interest than would have been the case if they had saved money in a bank while borrowers are able to pay less interest than if they had chosen to take out a bank loan. Read on to learn more about peer-to-peer lending:
What Is It?
Otherwise denoted as P2P, peer-to-peer lending is a method of debt financing that allows individuals to lend and borrow money using a lending partner platform such as SoFi, Lending Club and Prosper. This happens without the use of such financial institutions as banks working as intermediaries.
Through this social lending mechanism, the middleman is eliminated from the process. However, it does take more risk and effort than with the traditional lending scenarios happening at banks.
The advantage that social lending offers to lenders is that the loans will generate income through interest, which often exceeds the interest amount you would earn from traditional means (such as from CDs and savings accounts).
Additionally, P2P loans will allow the borrower to access financing that they otherwise might not have received.
However, there are some disadvantages to P2P loans. For instance, the lender will have little to no assurance that the borrower will pay back the loan. Similarly, depending on the lending platform and system used, the interest might be higher to offset the level of risk lenders typically take.
How It Works
It is easy to understand how peer-to-peer lending works. First, lenders will put their investment/savings into an account. These monies can then be used as loans to borrowers. In return, the lender earns an income in the form of decent interest rates. These rates are usually pre-set, and might be chosen by the lender.
Similarly, lenders sometimes get to choose the borrower they wish to lend to – for instance, people with excellent credit ratings, good ones, or fair ones. These categories of borrowers are accompanied by varying rates of interest, depending on the general level of risk. To this end, you will receive higher interest rates if you choose to lend to riskier borrowers.
Additionally, the lender has to decide on how much money to give out as a loan, plus the accompanying repayment terms. The P2P lending partner – including SoFi, Lending Club and Prosper – will then allocate these amounts accordingly. The investment might also be split up into separate loans for purposes of diversifying the risk the individual lender takes on. This will considerably reduce the possibility that the lender will not get their money back.
In most cases, peer to peer lending partners often ring-fence the investment before lending begins. This simply means that it will be kept separate from the main finances maintained by the P2P company. This way, the lenders will have an additional financial safety net to fall back on in case the lending partners go bust. In fact, platforms such as SoFi, Lending Club and Prosper have their own bailout funds that they would use to reimburse individual lenders in case borrowers fail to repay the money they took out.
From the perspective of the lender, therefore, the peer to peer system is very similar to the traditional savings account. They will deposit their money for a set period of time, and start receiving interest on this investment. Once the
term comes to a successful end, the lending platform will reimburse the original capital invested. Some platforms even allow lenders to gain access to their money at any given time, although this is often subject to charges.
Benefits of Peer to Peer Lending
Peer to peer lending as run by SoFi, Lending Club and Prosper comes with a number of benefits that you might want to review and understand. These benefits include, but are not limited to:
- Ability to earn up to double the income you would have received from the typical savings account
- Lending partners often rigorously credit check all borrowers
- In most cases, only a tiny percentage of applicants will be accepted and approved
- Most P2P websites have facilities and mechanisms in place to chase all repayments and reimburse lenders in case some borrowers fail to repay their loans
- Easy access to the invested amount, which is subject to fees and charge
- In terms of regulation, all peer-to-peer lending platforms are heavily regulated and scrutinized by the Financial Conduct Authority, which means that they have the same level of protection that also applies to mainstream lenders and finance providers.
Other benefits and advantages of peer-to-peer lending include:
1. Easier Approval
In most cases, approval rates and times on peer-to-peer lending platforms are usually higher and shorter. Therefore, you are more likely to receive an approval at these platforms than if you made a similar application at a traditional lender, such as a bank.
Additionally, borrowers will gain access to a larger network of lenders. Although some lenders will not want to give out their money to borrowers with bad credit, therefore, you should be able to find a couple who will be willing to extend the financing to you.
2. Lower Fees
Similarly, peer-to-peer lending allows you to deal with fewer fees. When you borrow from a regular lender or bank, they might charge you processing fees, application fees, among others. This is not the case when you decide to work with a lending partner on a one-to-one basis.
3. Time Savings
Last but not least, when you go the peer to peer lending way, you will also be able to gain access to your money faster and in a shorter period of time. If you had elected to work with a more traditional lender, chances are that you would have had to wait for weeks before your loan application sailed through and you received the money. With peer-to-peer lending partners, this time, is drastically chopped down. In fact, you might even receive the money you need on the same day you make an application for it.