There is a new revolution that is rising as banks and soaring interest rates are making it more and more difficult for average citizens and small business owners to get loans. A lot of it is because of the bank’s own irresponsibility in issuing loans, and part of it is because of the sluggish economy. Regardless of the reason, there is a large group of fiscally responsible and financially stable individuals who are unable to get the financing that they need.
Peer-to-peer lending is a movement that has stepped up to potentially fill that void by removing costly banking infrastructures, and allowing people to borrow money directly from other people. The cost saved from not having to support costly banking facilities and employees, and being run completely online is what allows peer-to-peer lending companies to offer such low interest rates.
Peer-to-peer lending sites such as Lending Club or Prosper serve the role of connecting borrowers to investors. That relationship is the key to their success. Peer-to-peer lending is a unique investment opportunity as it provides significant higher returns than traditional savings or CD accounts while being moderately liquid, but is not as risky as stocks or other high profile investments. It is a great option to bring some diversification to a portfolio. Investors also get to enjoy the feeling of helping out another individual as they get to screen who they want to invest in.
The key thing is peer-to-peer is an investment. This means that lenders are faced with the risk of losing money. A creative solution that peer-to-peer companies have used to minimize that risk is using a notes system were loans are broken up into $25 notes. That makes it easy for lenders to spread their money over multiple loans so it does not hurt as much if one loan goes into default. Loans tend to be shorter term with very few lasting over five years.
On the other side of the equation, borrowers get to enjoy interest rates that are usually lower than comparative loans from banks depending on factors such as their credit score and employment. In fact, a good portion of people who do use this service use it to consolidate multiple loans or pay off a loan with a higher interest rate. However, the screening process is quite rigorous. The majority of applicants are turned down due to not meeting requirements. A solid credit score, history, and employment are a must in order to take advantage of this form of lending.
The industry leader for peer-to-peer lending is Lending Club. Lending Club opened in 2007 and has issued over $483,794,150 in loans and has paid investors $40,736,238 interest. Lending Club makes its profit by charging a 1% service fee to investors.
Peer-to-peer lending presents unique opportunities to investors, individuals and small business owners looking for funding. It takes the best of banks and social communities and brings it all together in one convenient place. The next test will be if these companies can turn and remain profitable and continue to attract investors and borrows with high returns and low rates.