Peer-to-peer (P2P) or social lending businesses have capitalised both on new technology and low savings interest rates to offer savers potentially better returns than they would get from conventional savings products.
In a nutshell, P2P lending companies are websites which cut out the financial middleman and allow you to lend directly to other individuals or businesses. You choose how much you want to lend, who you want to lend to and how much interest they should pay.
But there are still important differences between the key players in this relatively new market – let’s take a closer look at who they are and what they do.
This article is part of a wider series on investing, covering all areas from stocks and shares to buy-to-let, peer-to-peer and alternative investments. Click here to view the full guide.
Launched: March 2005
Lender fees: 1% to remove your money quickly
Average return: 5.9% over the past year (after charges and average defaults)
Zopa allows you choose the type of borrower you want to lend to, the level of risk you are prepared to take on and the interest rate you wish to receive. Your money is then lent out to several different credit-checked borrowers to reduce the impact of any defaults. When a repayment is made by the borrower each month you receive a slice of your capital investment back, along with some interest.
Zopa will also chase up any overdue payments using a debt collection agency or the courts if necessary. But despite these precautions, defaults do occasionally occur and can eat into profits.
Lenders can withdraw any remaining invested funds at any time by transferring the amount of unpaid debt to another user, subject to a 1% admin fee.
Zopa also runs a listing service that allows lenders to obtain more information about the individual borrowers and make manual loans of single amounts to whoever they wish to lend to.
Launched: October 2010
Lender fees: 1% annual servicing fee and 0.25% loan sale fee
Average return: 5.1-6% (before defaults and fees)
Funding Circle uses a similar model to Zopa with the key difference that you are lending your cash out to small businesses and not individuals.
All borrower companies are identity, fraud and credit checked by the site and must have at least two years of audited accounts to be eligible for a loan. The business set up a loan request indicating their target interest rate and lenders are invited to offer up their cash, specifying what rate they wish to receive. After bidding on the request has ended the lenders with the lowest interest rates will all take a stake in the loan.
The key attraction of Funding Circle is that you can view the type of business that your cash will go to, inspect their accounts and ask questions about what your money will be used for. An automatic lending tool is also available if you don’t fancy lending out your cash manually and like Zopa, Funding Circle will chase up any missed payments using a debt collection agency.
Launched: October 2010
Lender fees: fee of 0-1.5% to remove your money quickly
Average return: 4.83% last year
RateSetter was founded in the UK and offers a simplified approach to P2P investing.
You decide how much you want to invest and then how long for, with five-year, one-year and rolling market options available.
The platform then lends you money to a diversified portfolio of borrowers, including individuals, businesses and property.
A key attraction of RateSetter is a Provision Fund to provide a buffer against poorly performing loans. Whilst this has so far been 100% effective, RateSetter notes that investors are not guaranteed their money back.
Pros of P2P lenders
- A chance to earn higher rates than if you put your money into a conventional bank or building society accounts.
- Help UK businesses that need funding, and lend to individuals at reasonable interest rates
Cons of P2P lenders
- The industry is unregulated (for now, although the Government wants that to change) and not covered by the Financial Services Compensation Scheme.
- Bad debts could eat into your returns.