What Is P2P Lending?

Peer to peer (P2P) platforms enable financial transactions without the intervention of banks or other financial institutions. Through P2P websites and apps, investors connect with their loan applicants directly, bringing benefits to both lenders and borrowers. However, as in every financial investment, there can be risks—so before jumping into the P2P lending scene, it’s important to learn a little about the ins and outs of P2P lending.

Who Uses P2P platforms?

First kicking off around 2014, P2P lending platforms have evolved into a business worth billions; attracting lender-investors and borrowers from across the world. Lenders looking for a unique way to invest their money will often find that P2P lending platforms offer above-market return rates, higher than what’s available from a traditional certificate of deposit or regular savings account. Moreover, P2P lending is a unique way to help people in need. Many P2P apps work with specific groups of people—like patients in need of medical treatments or students trying to pay off their student loans—so lenders can tailor their investments accordingly. Meanwhile, on the side of the borrower, people with lower credit scores may have a higher chance of getting a loan on a P2P app, as these platforms evaluate more than just FICO scores to establish creditworthiness.

Getting Started

To get started with P2P lending, all you have to do is create an account on a P2P website. Fees may vary widely, so before selecting a platform, be sure to check rates as well as who will be responsible for covering the cost of the transaction—the investor, the lender, or both parties. Investors normally begin their P2P lending journey by depositing the amount of money they wish to invest, which they are encouraged to disperse among different borrowers to decrease the risk of overdue payments or a borrower in default. Lenders can choose between high-risk applicants, who usually yield higher interest rates, and low risk ones—in other words, people with high creditworthiness—who may yield lower profit margins but are more likely to pay on time. Many platforms also have protection policies that safeguard investors in case of default or death of the borrower, but in any case, the risk of default exists. Therefore, as always, investors should not part with money they can’t afford to lose.

Borrowers using P2P platforms to access funds will be asked to submit their personal and financial information, enabling the platform to assign a creditworthiness score. This score will then be used to determine the interest rates the borrower will pay—the higher the score, the lower the interest rate, and vice versa. Not all borrow requests will be approved, as platforms usually have specific criteria for granting them; so people with lower scores might want to check these requirements. On the other hand, if you’re a P2P borrower with a very high creditworthiness score, it could be worth checking if you can find a lower interest rate (and potentially better terms) with a traditional institution, such as a bank or credit union.

Other Safety Considerations

In addition to carefully analyzing investment rates and other various fees, newcomers to the P2P lending scene will want to make sure they are working with trustworthy platforms, and that their money will be safe. Even though they are external to traditional financial institutions, P2P platforms are still regulated and need to follow rules mandated by the government. While this does not exempt client lenders from the risks of investment, the more transparent the company, the more likely users are to find policies that safeguard their data and financial interests. P2P lending newcomers might want to get started with established P2P apps to minimize risks or scamming. In any case, the P2P lending world is new but rapidly growing, so learning about its benefits and drawbacks might yield financial benefits in the near future.