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How to Invest in Peer-to-Peer Lending? Peer-to-peer (P2P) lending services connect private investors with those looking for loans. These platforms often vet borrowers and act as an intermediary. P2P lending is hazardous, yet high profits are achievable.
If you have some spare cash and wish to experiment with atypical investment, peer-to-peer (P2P) lending may be worth investigating. It enables independent investors to give money to debtors seeking loans. Risk is higher than in other investments, but it may result in higher profits. Here’s how to get started with peer-to-peer lending, as well as the advantages and disadvantages.
How Does It Work?
Peer-to-peer lending is typically done through loan platforms like Prosper and Upstart, which connect investors directly with potential borrowers. They act as a middleman, handling the practicalities of the financing procedure. This often includes:
- Find creditworthy borrowers.
- Verifying their identification.
- Transferring funds
- Collecting repayment
In some cases, the platform or a third-party financial institution may fund the loans before selling them to investors. Lenders normally do not have direct contact with borrowers, and both sides’ identities are kept private. If everything goes as planned, borrowers will make their payments.
Should I invest in Peer-to-Peer Lending?
Whether or not to invest in peer-to-peer lending is a matter of personal preference. Before stepping in, consider the pros and hazards.
Benefits of Peer-to-Peer Lending:
Potential for large profits:
P2P lending may allow for competitive returns. According to the International Review of Economics and Finance, the median rate of return on lending club loans ranged from 4.7% to 10.3% for creditworthy borrowers between 2015 and 2018. Prosper reports an average historical return of 5.7%.
Low barrier to entry:
With peer-to-peer lending, you can start investing with as little as $5 to $25, but some platforms may have higher minimums.
Diversification:
Investing in peer-to-peer lending can help you diversify your portfolio while reducing risk. It’s an alternate investment that could be a useful addition to assets like equities, bonds, mutual funds, and exchange-traded funds (ETFs).
Risks of Peer-to-Peer Lending:
Risk of default:
While most P2P lending sites evaluate borrowers, there is always the possibility of losing money. If a borrower defaults on a loan you funded, you could incur a big loss. Gains, like those from most high-return investments, are never guaranteed.
Fees can reduce your returns
Each platform is unique, although most demand a service fee. For example, you may charge a 1% annual fee on each payment you receive from borrowers.
The platform holds funds
Once you fund a peer-to-peer loan, you must wait for it to be repaid before recouping your initial investment. That could be a problem if something comes up and you need money earlier than intended.
How to Invest in Peer-to-Peer Lending
If you want to get started with P2P lending, follow these steps.
Choose a platform
Your investing goals will determine which peer-to-peer lending platform is best for you. For example, Kiva makes loans to underprivileged communities. Depending on your values, collaborating with this type of platform could be considered ESG investing. Meanwhile, many platforms may only work with accredited investors. This means:
To qualify, you must have a net worth of at least $1 million, have earned more than $200,000 in the last two years, or have a combined income of $300,000 (if married). When evaluating peer-to-peer platforms, define fees and investor requirements to determine the best fit.
Create an Account
Each platform works differently, but you’ll most likely create an account and then select which loans to fund. You may either do this manually or establish your preferences and let the site match you with potential borrowers. Some platforms allow you to automatically invest in loans that suit your specific requirements.
Stay on top of your Loans
Monitor your peer-to-peer lending account to check that borrowers are making timely payments. If you deal with a financial advisor, keep them informed so they can track your investment performance. Depending on how things go, they may recommend adjusting your asset portfolio to reduce overall risk. They can also assist you in identifying your target borrower and loan size, calculating your average P2P returns, and determining how it all fits into your long- and short-term financial objectives.
Frequently Asked Questions
Is peer-to-peer lending safe?
Peer-to-peer lending is riskier than traditional savings accounts or certificates of deposit, but the interest rates are frequently significantly higher. Peer-to-peer lending sites typically assume the majority of the risk, leaving individuals who invest in them to bear the brunt.
Is it worthwhile to invest in peer-to-peer lending?
P2P lending, like any other high-return venture, is not without danger. These loans have high default rates, which can result in losses for investors. Platform fees may also reduce any possible gains.
Do you need to repay peer-to-peer lending?
If you are approved for a loan, the peer-to-peer network may need you to pay an arrangement fee first. Then you repay the loan with interest by making regular installments during the term of the loan arrangement.