I have long been fascinated with peer-to-peer lending. I know several home business owners that have created passive income and savings in this manner, and in many cases while helping the lender get their own home business dreams off the ground.
Peer-to-peer lending does come with risk and a lot of questions like is it a good investment? Today we have several long-time lenders stopping by to share their experiences and tips of the trade.
Meet the P2P Lenders
Mark Schroeder, http://theconsumersedge.com: I was seeking a better return on my idle cash than any bank could provide. I was hoping that it would be a viable investment alternative to stocks or bonds, too. Both have their risks, of course, and their rewards. I was also intrigued to “play banker.” Knowing that I am owed money, rather than owing money, is a very liberating feeling.
Jon Dulin, http://www.moneysmartguides.com/: I wanted to help people out. Some people are looking for money to start a business while others were horrible with money and are trying to fix things. Many times, especially now in the tight lending environment we are in, if you don’t have stellar credit, you probably aren’t getting the loan. By funding loans on P2P websites, you can help others out who are in need.
Marc Prosser, http://fitsmallbusiness.com/: A few years ago, I was running a website which focused on investing in bonds and fixed income. I was looking for something different to write about and came across P2P lending. In writing a number of articles, I became convinced that it wasn’t a fad, but a great investment which deserved to be part of my portfolio. Essentially, the P2P companies were enabling investors like myself to replace credit card companies as lenders. Historically, credit card companies have done very well.
What’s the Process Like?
It’s very easy to get started and most reputable sites will offer extensive information and guidance to beginners.
Mark says, “There’s an application that asks for basic information, bank account information, questions about income, identity, and related information. Since not all states allow peer-to-peer lending, this might not be an option for some to pursue.”
Once approved you will be able to browse listings to see the amount requested, the borrower’s credit score and more. You don’t have to cover the full loan request. The sites pool funds from several lenders allowing you to invest as little as $25 per loan.
Every month the borrower has to make a payment of principal plus interest. This is deposited back into the lenders’ accounts. You can withdrawal or reinvest this money. Prosper and Lending Club will also allow you to set up an IRA for these deposits allowing you to not only start a passive income source that contributes to your retirement but also helps you enjoy tax advantages.
Marc says, “The big decision is about what type (level or risk) to take, and how much money to invest in each loan. With Lending Club, the actual buying of notes can be automated based on what you decide.”
The Lending Club Story: How the world's largest peer to peer lender is transforming finance and how you can benefit
What Kind of Return Can be Expected with Peer-to-Peer Lending?
Two of our experts declared a return of 8%. Mark says, “last year, my ‘annualized return’ was around 12%, but that has fluctuated significantly in the 3 or so years I have been doing this. I have gotten better at it over time, but haven’t gotten rich doing this. But, it’s been better than any savings account.”
What About the Risk?
All of our interviewees felt safe lending on the sites they use. There is risk. Sometimes people will default on their loans. Two of our guests have had this happen, but they also lend on a large scale. As Marc and Mark both noted, most sites like Prosper recommend lenders invest $25 in 100 loans to minimize the loss potential. Marc says, “I have invested in 1939 loans. So far, I have not gotten my money back on 138 and another 29 are currently late in making payments.”
Jon says, “Personally all of my loans were paid back. One was paid back early, which reduced my return since the loan wasn’t held to its full term. I did have a borrower miss a months payment, but the following month they made a double payment to make up for it.
The loans I funded were from borrowers that had B and C credit ratings. Prosper would grade them based on their credit report, with A being the best. The better the grade, the lower the interest rate you as a lender receive. In the 5 loans I funded, I averaged around an 8% return. Had I gone with lower grade borrowers, I could have earned more, but I wasn’t willing to risk my money.”
Mark: If you are going to invest in peer-to-peer lending, like any investment, make sure you can afford to lose the money. Meaning, you shouldn’t be investing if it means potentially losing money that could go to food, clothes, rent, mortgage, and other needed expenses. If you can afford to do this, go for no more than a small amount of your assets, experts say 5 to 10%. Since you are lending to people, there is a different element of risk than lending to companies.
Jon: My tips would include to remember that risk and return are related. There is a greater chance of you losing your money on a bad loan, so don’t fall for the high return. Also, make sure you read through the profiles of the borrowers and understand what they are using the money for and why. If you have questions, ask. You can ask questions to the borrower before lending money. Lastly, diversify. Fund a few loans of various credit-worthiness. I funded a B and C loan at first. If you put all of your money into one loan and it defaults, you are done. By investing in a few loans, you spread your risk.
Marc: Diversify. Make sure you can buy at least 100 loans and put an equal amount in each loan. You can invest as little as $25 in each loan, so this would require $2500 at a minimum. Some of the loans will default. They key is not having your portfolio be majorly impacted by any particular default.
Recommended Peer-to-Peer Lending Sites
Learn more about the process at http://www.lendingmemo.com/.
Sign up as a lender (or borrower) at:
Have you been involved in peer-to-peer lending? What tips or experiences can you share?