Peer to Peer Lending
The Borrower Perspective
For the borrower, this process seems pretty sweet. You don't have to shop around at different banks or credit unions. You can apply right online, so the process from beginning to end is pretty easy. You can usually get a loan for either a 3 or 5 year term. The platform will check your credit history and could also very income and employment. The rate of interest you are charged for the loan will depend on these factors. The platform will also charge an origination fee of 1-5% of the loan amount and deduct it from the loan proceeds.
The Investor Perspective
The idea of being the bank is an appealing one. Lending out your money for a 6% - 10% return sounds really good considering you earn zero when it sits in the bank. Obviously, this return does not come without risk. These people you lend your money to might not pay you back. That would suck. You are able to reduce this risk by spreading your investment in many "micro loans". For example, if you want to invest $10,000 you could spread out $400 loans to 25 different borrowers.
For the record, I chose not to invest in P2P Lending platforms. Even though it is possible to spread the risk by investing in multiple "micro loans", the bottom line is you are still investing unsecured money and locking it up for 3 to 5 years. For me, the rate of return wasn't worth it. I would rather buy real estate.
What is Peer to Peer Lending?
Peer to Peer Lending is a marketplace for borrowers and lenders to come together without a bank being involved. It is kind of like a matchmaking platform for people that want to borrow money and people that want to lend money for an investment return. I can go onto a P2P Lending platform like Lending Club or Prosper, apply for an unsecured personal loan and get offers from people just like you willing to lend me the money. The platform will charge a fee to both the borrower and the lender to provide this matchmaking service. There are two different perspectives we can look through to get a better understanding. The person that needs money (the borrower) and the person that is acting like the bank and investing the money (the lender).