With banks paying negligible interest rates on savings accounts, you may be looking for better-paying investments — or better yet, you may become a banker of sorts yourself through peer-to-peer lending.
Risk, however, runs higher than FDIC-insured savings deposits. The peer-lending accounts are not insured. And if a borrower defaults, you could sustain the loss of the entire amount you loaned. Still, there are ways to control your risk in this folksy sounding but fast-growing, high-tech industry.
This time, it’s personal
In peer-to-peer lending, you decide which borrower may get your money.
“If you got into credit card debt in college, and now you’ve got a stable job but are paying off credit card debt at 23 percent interest, and I want to loan you money at 15 percent interest, that’s a win-win for both of us,” investor Carey Villeneuve told Money Talks News’ financial expert Stacy Johnson. “I’ve been doing this since 2009 and thus far I’ve averaged 13.26 percent return on my investment — and I’ve not had a single default.”
You find borrowers through peer-to-peer online platforms. Started just 10 years ago, online peer lending has grown into a multibillion-dollar industry, and more people and companies are clamoring to join.
The pioneer is London-based Zopa, launched in 2005. Zopa’s 58,000 lenders funded more than $750 million pounds, or $1.1 trillion, in loans for more than 107,000 borrowers who said they would use the money for cars, home improvements, weddings or debt consolidation. The lenders, Zopa says, earned 46 million pounds, or $67.8 million, for an average rate of return of 5.6 percent after fees and any losses from bad debts.
Prosper and Lending Club, both based in San Francisco, dominate platforms in the United States, where the system operates a little differently than Zopa’s.
Lending Club has facilitated loans totaling more than $7.6 billion since giving out its first loan in 2007.
Prosper, founded in 2005, surpassed $2 billion in personal loans in 2014, a year it recorded a 350 percent increase in loan originations year-over-year. It recorded 250,000 borrowers.
Lending Club and Prosper both prescreen and rate loan applicants, post loans that need funding, offer terms for three or five years depending on loan size up to $35,000, take bids from lenders for as little as $25 each, and charge fees to borrowers and lenders.
For example, one Prosper listing shows a professional with an “A” rating in Alabama seeks a $15,000 debt consolidation loan at 7.49 percent interest. The borrower will pay $466.52 a month for three years. Prosper will take a 1 percent fee, so lenders will receive 6.49 percent. Prosper also notes that it estimates a loss of 2.24 percent on the loan if the borrower stops paying. You could bid for a piece of the loan action for as little as $25 or up to the full amount. When enough people say they will invest in the loan, it will be funded and each investor will receive a prorated amount of the borrower’s monthly payment.
Lending Club says its average loan is about $14,000 to a borrower with an annual income of $72,000 and a FICO score of 699.
Not everyone may invest. Generally, you must have an annual gross income of at least $70,000 or your net worth must be at least $250,000 (exclusive of home, home furnishings and automobiles). Some states impose tighter rules. Some don’t let you play at all, but that may change.
As an investor, you need to keep track of your earnings. For federal tax purposes, Prosper says, most investor-lenders likely will report earnings as ordinary interest income, but it advises consulting with a tax adviser for appropriate tax treatment.
When you buy a note, the platforms caution, you should be prepared to hold it until maturity. If you want your money out before the note matures, you need to find a buyer for the note from exchanges set up on the platforms, which charge processing fees.
Growth in peer-to-peer lending has drawn the attention of the big guns, hedge funds and other institutions. Their computer programs spot and often bid on the top-rated, most reliable-sounding loan applications, which can be funded within seconds after posting and shove you out of a good investment.
So services like Lending Robot have sprung up to help level the playing field. Lending Robot advertises no setup or exit fees and that it manages your first $10,000 of investment free and charges 0.45 percent after that. You link your Lending Club or Prosper account to Lending Robot and set up investing criteria such as loan term, borrower’s grade, or popularity. Its high-speed algorithms, it claims, then find loans, reinvest payments, diversify your loans, and spread your money around into many small amounts, theoretically reducing your risk of losses.
Bank on expansion
While Lending Club and Prosper both claim to cut out banks, one is really at the core of both operations. Loans for borrowers actually are made by WebBank, a Utah-chartered industrial bank. The bank sells the loans back to the platforms, which in turn sell you notes for your portions of the loans.
The notes are as worthy as the borrowers.
Lending Club recently announced a partnership with Alliance Partners, which manages the BancAlliance network, a 39-state consortium of community banks competing for loan business dominated by larger banks. BancAlliance members can offer co-branded personal loans to their customers through the Lending Club platform as well as purchase consumer loans and others for their portfolios.
Prosper in January purchased American HealthCare Lending, a financing platform that allows patients to sign up for payment plans to pay for behavioral health programs, fertility and reproductive clinics, cosmetic and plastic surgery, bariatric surgery centers, hospitals and physician groups, spine and neurosurgery centers, cosmetic dental offices and other healthcare facilities.
Even though the platforms are growing and there’s competition, you still lend peer-to-peer. Just remember to investigate the details before you get in on the action.
Share your thoughts about the peer-to-peer lending opportunity in the comments section below or on our Facebook page.
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