Benjamin Franklin once said that if you want to truly appreciate the value of money, try borrowing some. Today, that is easier said than done for many reasons. For one thing, after the global financial crisis of 2008, most financial institutions began severely limiting their risks with personal loans. That why some invest in peer to peer lending.
Almost 20 million people have personal loan debts amounting to about $140 billion in 2019. Meanwhile, almost 180 million people have major credit card debt. Americans collectively owe over $1 trillion in credit card debts. The average personal loan was for $11,000 at 33% interest.
Why the disparity in lending practices? Well, even though it is less easy to get a credit card, its relatively easier than getting a personal loan from a bank. Over 25% of people have been declined at least once for personal loan. For most people, applying for a personal loan is an arduous and self-defeating process.
The paperwork process is laborious, and it could take months to get approved. So, many people now turn to peer to peer lending, or, P2P lending. From 2013 to 2018, the P2P lending industry exploded from a few startups into a burgeoning $3.3 billion industry.
Could this be something in which you might want to invest? Peer to peer lending can be fraught with risk. Before we talk about those risks, let’s explain peer to peer lending.
Peer to Peer Lending 101
Peer to Peer lending is where individuals and businesses lend money to other individuals or businesses through a website facilitator. Such loans are usually facilitated online and can be approved or declined near instantaneously.
The advent of peer to peer lending has made the personal lending process infinitely more convenient for people who can’t get approved by banks.
Some of the better-known peer to peer lending sites include Lending Club, Funding Circle, Upstart, Peerform, Circleback Lending, LendingKarma, and Prosper, among others. Interested to invest? Peer to peer lending sites require you to register and create a profile.
Then you can look over loan applications and decide to whom you will lend to. Most peer to peer lending site charge anywhere from 5% to 36% interest based on credit histories.
The Risks When You Invest in Peer to Peer Lending
Capital drag – This is a situation where there are more borrowers than active lenders on a site. So, your money just sits. It’s not being lent out or generating interest.
Insolvency – If a site shuts down, you could be in danger of losing your investment.
Fraud – Peer to peer facilitator site malpractice can endanger funds. Such sites are supposed to segregate investor funds from operating capital in the event of insolvency. Additionally, they are supposed to employ the latest cybersecurity countermeasures to defend against cyberattacks and hacking.
Payment delinquency – If your applicant is late on payments, stops paying, becomes unemployed, or disappears, there isn’t much that you can do.
Lower Your Risk
If you are going to invest in peer to peer lending, you should safely make it worth your while. Spread out a few hundred or thousands of dollars among well-vetted applicants. Make sure the site you lend through is professional and has security funds or asset security to protect segregated investor funds.