The people are taking their stand, and one giant middle man is being removed – the bank.
Borrowing and lending has been part of human society for generations. It was prevalent enough that God included some borrowing and lending guidelines in the books of the Old Testament law.
Historically, the wealthy lent to those in need. In our modern society, the banks have long since held the monopoly for extending credit. That is until the emergency of the P2P lending movement.
What is P2P Lending?
P2P stands for People to People lending. These companies provide a way for those who want to borrow money to connect with those who want to lend money. As a P2P lender, you will have the opportunity to find an individual who you think is a good candidate for a loan. From there, you simply offer to loan that person anywhere from $25 up to their full loan amount.
The recent Plutus Awards nominated Kiva as the Best Peer-to-Peer or Social Lending Service. Since I’ve never used Kiva, I feel more comfortable introducing your to Lending Club – a lending service I have used.
Lending Club Review
If you sign up for Lending Club using this link, you get a bonus $25 to start investing
What Are the Lending Club Requirements?
- You can lend as much as you wish through; however, you can only borrow up to $25,000
- All interest rates are fixed. Each loan will have an interest rate associated with it. You, the lender, simply decide if that loan is worth that interest rate (based on the borrower’s credentials).
- Loan repayments will be monthly for a term of up to 3 years.
- The debt can be paid off early without any penalties.
- Your privacy is ensured for both parties.
- Borrowers need a FICO score of at least 660 and a debt to income ratio (minus your mortgage) that’s below 25%.
- Not all states can participate with Lending Club, so be sure you can participate based on your residence.
What Risks are Involved?
There are essentially three:
- Loan Repayment Default – an individual may borrow money and default on the payments. Though Lending Club does have a debt collections process, there is no guarantee that you will get all your money repaid if someone defaults on one of your loans.
- Lack of Diversification – the less money you invest, the more concentrated your risk will be. Most people want to start off investing a hundred dollars which means they will invest in four loans. This means if there is one default, their portfolio might drop by 25%.
- Interest Rate Increase – when interest rates increase and you are locked into a loan with a lower interest rate, your loan becomes less valuable.
How to Reduce the Lending Club Investing Risk
- Lend only to the most qualified borrowers. Once you sign up you will be able to search for a person to lend money to. You set all the criteria including credit score and debt to income ratio. The higher a person scores, the more trustworthy they are – of course the less returns you can also expect.
- Diversify. When extending credit, you must loan a minimum of $25 per person. This way if you had $500 to invest, you could actually spread it over 20 different loans.
Here’s more tips on how to invest at Lending Club.
What are the average returns for Lending Club lenders?
Lending Club reports that their average annualized return is around 9-10%. This number, of course, is no indication of how you can expect your investments to perform as it completely depends on the risk you assume.
I would not invest any emergency funds as liquidity is not possible. Remember, you are typically going to be committing the money for a 3 year period.
You could take a portion of money set aside for mid-term lengths (3-5 years) and invest in some Lending Club notes. This would include money you are saving for a vacation in a few years, money that is for a vehicle purchase in the future, or money that is invested outside a taxable account. Anything with a three year window or more.
By the way, if you sign up as a borrower, you get $100. But that is another post for another time.
Any readers use Lending Club or another P2P lending company? Do you have any positive or negative results?