Peer to peer lending, also known as p2p lending, is a modern way of lending money online. P2p platforms work online and allow individuals to lend and borrow money without involving any third party such as a bank or other financial institution. It is beneficial for both the investor and borrowers. Borrowers can get quick access to funds at low interest rates compared to traditional bank loans. In contrast, investors can lend money online and get high returns on investment. As there is no financial institution involved, the overhead charges are low. Thus, peer to peer lending platforms offer services at cheaper rates than conventional banks.
Let’s take a look at the characteristics of p2p lending and the risks associated with it.
Characteristics Of Peer To Peer Lending
To understand p2p lending, you should know its characteristics. Some characteristics of p2p lending are as follows:
Most of the peer to peer transactions take place online. There are many online platforms providing services in the UK. investors and borrowers find it very easy as they can do transactions from anywhere in the world.
Variety Of Options
Investors have access to a number of borrowers, and they can choose the borrowers according to their risk appetite. In addition, P2p platforms categorise borrowers based on their credit rating so that investors can easily select borrowers according to their set criteria.
Existence Of Relation
There is no need for a borrower to have a familiar relation or common bond with the investor. Any unknown individuals can come to p2p platforms for the transaction. Even people in remote areas can borrow or lend money through p2p platforms.
Due to online availability and straightforward process, p2p lending proves to be time saving and cost-effective for borrowers and investors.
Wide Variety Of Loans
P2p platforms offer different types of loans. You can lend money to individuals, businesses and property investors. There are secured and unsecured loans, and you can choose to invest according to your requirements.
How Does P2p Lending Work?
Peer lending works differently compared to normal bank lending. Banks use the assets of other customers to lend money to the borrowers. While in p2p, lending borrowers directly lend money from the investors. Investors can choose loans they want to fund. In addition, investors can set lending criteria such as interest rate and loan terms, while in traditional lending, investors do not have any choice.
Investors need to choose a p2p platform and make an account on that platform to invest funds and start lending. Then, borrowers need to fill out a loan application and provide the necessary information to proceed further.
Risks Of P2p Lending
When investing in p2p lending, most investors look at the high-interest rates offered by p2p loans. But they should look beyond the interest rate and consider the risks to take measures to mitigate risks and make informed decisions.
Risk Of Capital
The most significant risk in p2p lending is the risk of losing money. Especially when you invest in unsecured loans, you may lose all of your money in case of borrower default. P2p investment is also not secured by the Financial Services Compensation Scheme. It means there is no security by the government. Therefore, you should spread your investment across multiple loans to reduce the risk of default.
Although p2p platforms conduct credit checks and strict procedures to check borrowers creditworthiness, some borrowers do not provide accurate information and provide false credit history to urge the investors. As a result, such borrowers are more likely to default. Therefore, you should check the security and credit check facilities of a p2p platform before investing money.
Variation in Interest Rate
The interest rate varies from platform to platform, and sometimes the interest rate displayed with the loan is not paid. So it is better to shop around and find a platform following best lending practices and offer competitive rates. You should keep in mind that the higher the interest rate, the more will be the risk.
Peer to peer lending is a great alternative to traditional investment options and offers high returns to beat the inflation rate. However, you should understand the risks and take measures to mitigate the risks. Nevertheless, it will help you in your portfolio diversification and earning a passive income.