Peer-to-peer lending is a form of borrowing and investing that has grown in immense popularity in recent years, with an estimated transactional value of £6 billion per year in the UK.
P2P companies or platforms act as middlemen between borrowers looking for loans and individual investors looking to earn a healthy return.
Whilst sticking with your ISA can be a safe option, the interest rates of 1% to 2% per annum are not overly attractive – and this has given way to a more technology driven peer-to-peer industry where annual returns range from 3% to 15% per annum.
Similar to ISAs, you will maximise your returns by keeping your money locked in for as long as possible and avoid making any instant or early withdrawals.
What are your investing in?
With peer-to-peer lending, you are investing in a pool of other anonymous people who are looking for loans and who are applying online using the P2P platform provided.
The majority of peer-to-peer lenders offer unsecured loans of just a few hundred or thousand pounds (Zopa, Ratesetter, Fund Ourselves). Some providers extend their proposition to lending through business loans, against property assets, corporate debentures and personal guarantees.
Your potential return is based on your level of risk that you accept, with good credit or safer customers offering a lower return on investment. If you wish to maximise your return, you can opt for riskier borrowers who may have bad credit. The typical option is to diversify your investments, using the tools provided by the lender.
What are the advantages?
The main advantage of investing in peer-to-peer is that the potential returns are some of the highest around when it comes to investment products.
Market-leader Zopa offers rates of up to 6% per annum, significantly higher than your average ISA or bond – and other new lenders such as Fund Ourselves offer as much as 15% per annum.
As a borrower you can choose your level of risk, by potentially investing in people with bad credit to yield the highest returns.
The peer-to-peer lending industry is regulated by the Financial Conduct Authority and this ensures measures are in place to protect both investors and borrowers – meanwhile investing in something like cryptocurrency comes with no centralised banking system, regulation or any form of protection.
What are the risks?
Your investments through peer-to-peer are not covered by the financial services compensation scheme, meaning that you cannot recover any losses up to £85,000 immediately. There may be some compensation in place if bad advice has been given, but this may not be applicable to each provider.
There are chances that some of your loans are not fully repaid and you could earn less than expected. Certainly if you wish to take out your money early or make a withdrawal, this will lower your expected return.
However, the lender will typically have procedures in place to recover any potential losses, with customer service teams to chase bad debt and provision funds in place.Even in the event of the company going under or into administration, by law, they will take measures to reimburse investors. In the case of Lendy who ceased trading last year, they continue to follow up on any bad or outstanding debts from customers so they can continue to pay back any investors.