Peer-to-peer lending is an exciting free-market way to lend and borrow money that is a less restrictive, modern way to access funding for your business or personal ventures.
What Is Peer-to-Peer Lending?
Peer-to-peer lending (P2P) is an alternative way to lend money to conventional loans, which uses internet-based financial intermediaries instead of banks to connect borrowers and lenders. This allows both parties to skip out the financial middleman and deal directly with one another.
Types of peer-to-peer loan options
P2P lending generally consists of unsecured loans, meaning the agreement isn’t secured against any collateral and tends to entail higher interest rates to accommodate the higher risk to the lender.
Some peer-to-peer loans can be secured, but this is uncommon.
P2P lending can cover virtually any purpose, but there are generally three main forms:
Personal to peer
The most general form of peer-to-peer lending can be used for the widest range of purposes. Often unsecured, they can be used for whatever purpose the borrower requires and usually incur a high-interest rate.
Education-to-peer is a form of personal-to-peer lending you may not have considered. The arrangement entered into between a lender and student or learner to cover costs of education and further costs involved in education is an unsecured peer-to-peer arrangement.
Business to peer
This form of P2P lending is less common but is gaining popularity among businesses as a way to secure money to purchase equipment and stock, encourage cash flow, and overall aid growth. Typically, this type of lending is secured against property or other business assets.
Property to peer
Uncommon in the P2P lending market, property to peer is generally used for short-term personal loans for refurbishment or extensions.
It entails a lower interest rate as there is a smaller risk for the investor as the loan is generally secured against the property.
What Can You Use Peer-to-Peer Lending for?
Generally, P2P lending is used for small businesses or personal loans, but it can be used for all sorts of purposes, the same as a loan from a traditional financial institution.
How Can I Get a Peer-to-Peer Loan?
Peer-to-peer lending requirements
As peer to peer lending is not beholden to the rigours of traditional financial institutions acquiring one is more straightforward but follows a similar application process.
The requirements may vary from platform to platform, but generally, an applicant must be over the age of 24, earn a minimum of £15,000 per annum, and have a good credit score. However, the credit score is often not as crucial as one required by a financial institution.
How long does it take to obtain a peer-to-peer loan?
After completing the online application form, the application may be reviewed for up to 2 days and the opportunity listed for 1-2 weeks.
As the loan will be considered by multiple potential investors, it can take longer to receive the funds. However, they are generally deposited in your bank account within a week of the opportunity closing.
How Does Peer-To-Peer Lending Work?
P2P functions on a similar model to crowdfunding. Each borrowers’ loan is taken from a cumulative balance built up by many different lenders’ money they have given to the platform to lend.
The platform is then responsible for lending the money and collecting the subsequent loan repayments along with interest to return to the lenders proportionate to their contribution.
Borrowers will complete an online application form on a P2P website. The platform will perform a soft credit inquiry, a credit check that doesn’t affect your credit score.
Once the loan request has been reviewed, the loan will be assigned an interest rate, and the chosen online platform will match lenders to the application.
The Pros and Cons of Peer-to-Peer Lending for Businesses
- P2P lending is not a traditional form of saving; the interest accrued is covered by the personal savings allowance, meaning lenders can interest make over £1000 tax-free from interest, amounts beyond this will be taxable.
- In the last few years, interest rates have been at an all-time low, making P2P, with its higher interest rates, a tempting alternative investment opportunity and a way to garner more returns via interest payments.
- By giving lenders the option to split their money over a series of smaller investments, their money is secured against the chance of a single defaulting borrower causing them to lose their money.
- In the event of a borrower defaulting, some P2P lending platforms have begun charging a one-time fee of between 0.5% – 3% of the loan. This sum is added into a contingency pot to secure against their investment.
- P2P is a fast and smooth way to access funds, with the process being entirely online. Some applications may even be in your bank account on the day of application.
- If borrowers are denied loan requests by a bank, P2P offers a great alternative.
- As opposed to secured loans, P2P does not require collateral against the money borrowed.
- A P2P lender is generally more flexible in offering the loan for a wider variety of purposes than a conventional loan.
- Repayments are made at a fixed rate, and the interest rate is lower than that offered by a bank.
- The soft credit check has no bearing on the applicants’ credit score.
- There is no guarantee on how quickly your money will be lent to borrowers, meaning that in some instances, your money may just be resting with the platform for an inordinate amount of time until borrowers are sourced.
- If you decide you need to withdraw your lent money, some platforms charge a substantial early withdrawal fee, whereas others do not allow early withdrawal at all. With a 1-5 year loan period being standard, this is something to consider when investing.
- P2P is not covered by the financial services compensation scheme and, as such, should not be viewed as a savings account. If your chosen lending platform does not offer a contingency, there is the possibility you could lose your money if the borrower defaults.
- P2P is a new system, and while relatively secure, it sometimes lacks the infrastructure of traditional loans. In 2019, despite regulation by the Financial Conduct Authority, mid-sized platform Lendy collapsed, causing 9000 investors to lose £90 million. Though this is not a common occurrence, it is demonstrative of the risk.
- There is a cap to how much can be borrowed, generally around £30,000.
- Some platforms subject borrowers to various costly fees, including administration charges to cover contingency funds, late payment, and early termination fees.
- A low credit score may restrict you to a high-interest rate, sometimes up to 36%. Missing your repayments will also negatively affect your credit rating.
What Are the Costs of Peer-to-Peer Lending?
P2P interest rates usually rest between 6-10%, though they can reach up to the 30% mark dependent on funds borrowed and the borrowers’ credit score.
Some platforms will charge an upfront fee which will go to contingency pot to secure the investments of lenders, though this system is not observed across the board.
Borrowers enjoy fixed monthly payment rates along with fixed interest, though they will incur late repayment fees if payments are missed. Loans generally need to be repaid within 1-5 years.
What Type of Security Do I Need for Peer-to-Peer Lending?
When entering into a P2P arrangement, it should be approached the same way as a traditional loan. It’s important to bear in mind that if you are refused by a bank, it is generally for a good reason, and a P2P solution should not be your immediate go-to.
You should ensure you have funds to cover the typical 1-5 year loan repayment period both as an investor or borrower, as early termination will incur fees for either party.
As mentioned above, the funds are not protected by the FSCS, meaning that no assistance can be afforded to you to recuperate potential losses, which should be taken into account when considering P2P.
Why Should You Consider Peer-to-Peer Lending?
If you are refused a loan by a bank, peer-to-peer is an obvious alternative way to access funds.
If the bank has refused you because of the reasons for the loan, you will find a P2P online platform that will be much more flexible in offering you funds for your loans’ purposes.
The fixed rate of repayment and lower interest rates are also a reason to consider it as an alternative.
And as a lender, P2P can be a great way to earn income that doesn’t rely on the stability of a single borrower.
Where Can I Get a Peer-to-Peer Loan?
A peer-to-peer loan can be obtained through several online platforms.
As the model of borrowing gains traction and popularity, so is the number of lending platforms and price comparison websites increasing, making access to the best loan for you easier.
Can I Get a Peer-to-Peer Loan If I Have Bad Credit?
Generally, access to P2P will be restricted if your credit score is below 630, though some platforms offer loans to people with scores as low as 660.
Though this flexibility is great, the low credit score will incur a much higher interest rate, and it’s worth considering taking out a loan with a low credit score such as this is in your best interest.
By skipping out traditional loan requirements and offering great rates for both borrowers and lenders, P2P has seen a significant rise in popularity in the last twenty years.
It’s a modern way to secure seed funding for a business or for individuals to bypass murky, drawn-out conventional routes without impacting their credit rating.
That being said, you should treat it with the caution of a traditional investment as it is not a guaranteed method of saving, nor is it managed by an official body.
How does peer-to-peer lending differ from crowdfunding?
With crowdfunding, the investor gets no return from their investment beyond the ultimate purpose for the loan; with P2P, the investor will make a profit from the interest.
Is peer-to-peer lending regulated?
Peer-to-peer is not beholden to a regulatory body, making the element of risk entailed more present. However, this is something P2P platforms are aiming to combat by charging contingency fees to borrowers to help secure investors’ funds.
Is peer-to-peer lending safe?
P2P lending is a safe method to borrow and invest though due to the relatively new nature of the system, it lacks the infrastructure of conventional loans.
That being said, its growing popularity speaks to its general security as a loan acquisition method.
How quickly can I be approved for a peer-to-peer loan?
Some peer-to-peer loans can be secured as quickly as 24 hours after application. Generally, the approval takes no longer than 48 hours.
How safe are peer-to-peer lending sites?
It’s in the best interests of peer-to-peer lending sites that aim to provide secure agreements to uphold their legitimacy. That being said, as they are not regulated by official bodies, there is more of a risk of defaulted repayments causing money to be lost.
As the method gains more mainstream popularity, platforms are beginning to offer failsafe plans to provide security, such as an upfront small percentage fee that goes into an overall pot to compensate in the case of lost funds.