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10 Things You Need to Know About Peer-to-Peer Lending

Peer-to-Peer Lending

Based on the ancient concept of lending money between friends, peers or associates, peer-to-peer lending, also known as P2P lending, connects people who want to borrow money with people who want to lend it. This innovative lending framework has been gaining popularity over the last decade, but many people still aren’t sure how it works.

Your Guide to Peer-to-Peer Lending:

  1. Peer-to-peer loans match investors and borrowers.

With peer-to-peer lending, borrowers don’t submit an application to a bank or other financial institution. Instead, they create a profile on a website, and that acts as their application. Investors, then, review the online profiles and if they like what they see, they offer a loan to the applicants.

  1. Borrowers have a choice of loans.

Borrowers are not required to take out any of the loans which they are offered. Rather, they can review the terms and interest rates created by various investors, and they can determine which one they prefer. If they don’t see a loan that works for them, they don’t have to take one out. In the P2P lending world, this is referred to as the auction process.

  1. Credit scores and debt-to-income ratio is important.

If you decide to apply for a peer-to-peer loan, the P2P platform creates a profile for you which includes information about your credit score and debt-to-income ratio. Every P2P lender does this slightly differently. For example, some lenders may show applicants’ credit scores, while others may assign ratings such as A, B or C to borrowers. Don’t worry – although profiles are public so that investors can see them, they don’t contain your real name, ensuring your privacy and security.

  1. P2P lending looks beyond credit scores.

However, while credit scores can play a big role, the application process looks past them. While creating your profile, you also get to explain why you need a loan, and this part of the application can be critical to attracting a lender or investor. For example, an investor who sees an enticing application may be more likely to loan to that applicant than to another applicant who doesn’t have a clearly defined purpose for the loan, regardless of whether or not the second applicant has a better credit rating.

  1. Peer-to-peer lending does not leverage data like many online lenders.

Although peer to peer lending uses technology to connect borrowers and lenders, it does not leverage data in the same way that fintech lenders do. For example, fintech companies like Kabbage amass data from all over the internet to create a picture of the borrower that far exceeds the image created by just a credit score. This data varies based on the type of loan the applicant applies for, but it may include stats from sites such as eBay, Amazon, PayPal and countless others. In addition, these companies can also collect data from the applicant’s QuickBooks software. All of this data creates a much more accurate picture of the borrower than a simple profile on a P2P site does.

  1. The application process is longer than some loans, shorter than others.

Applying for a peer-to-peer loan is arguably faster than applying for a business loan through a bank, especially because borrowers don’t have to create lengthy business plans. However, P2P applications take longer than applying for loans from online lenders, and they can take longer than applying for a credit card online, as well.

  1. Approval and funding times can vary.

With many online lenders and even with online credit card applications, a decision can be rendered in just a matter of seconds, and for online loans, in particular, funding can happen the same day or the next business day. With peer-to-peer loans, approval and funding times vary. Because borrowers have to wait until an investor becomes interested in their profiles, the process can take anywhere from a few minutes to a few days to a few weeks.

  1. The industry is growing.

A decade ago, very few people knew about peer-to-peer lending, but now it’s become a billion-dollar industry. In the United Kingdom, in 2014, peer-to-peer lenders lent out £1.2 billion, and in the following year, this amount nearly doubled to £2.3 billion.

  1. There is a perceived lack of oversight in P2P lending.

The industry has grown so quickly that some analysts claim it lacks oversight. To illustrate, in mid 2016, Lending Tree’s stocks dropped 26 percent in a single day and were cut in half in a very short period of time. Allegedly, the company was doctoring loans to make them appealing to investors who wouldn’t be interested in them otherwise. As a result, the Department of Justice and the Securities and Exchange Commission are looking into the company. Spurred by that event, regulators in the United Kingdom are also looking into that country’s peer-to-peer lending industry.

  1. Investors receive better rates but less security.

Investors who want to put their funds into peer-to-peer platforms have the opportunity to earn interest, and in almost all cases, the nominal rate of return exceeds that of savings accounts, money market accounts and Treasury Bonds. However, if you lend money over a P2P site, your investment is not guaranteed as it is with these other investment vehicles.

 

Peer-to-peer lending is a fascinating concept, and with the right regulations in place, it can help borrowers access funds they may not otherwise be able to obtain. Similarly, it provides investors with a unique opportunity to make extra cash by extending capital to businesses and individuals. However, it is a fledgling industry, and borrowers and investors should vet platforms thoroughly before using them.

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Kabbage Team

Kabbage is here not only to provide access to the small business funding you need, but to also help you grow your business through free marketing tips, webinars, tools and more. Is there something you'd like us to cover or want to get your small business featured on our blog? Send us a note at content@kabbage.com.