Updated: May 23, 2018
What is P2P?
Peer-to-peer (P2P) lending is a new method of debt financing that allows individuals to borrow and lend money directly from each other without the use of an official financial institution as an intermediary. Traditionally, when individuals or small businesses need a loan, they apply for one from bank. Nowadays, borrowers and investors can meet on peer-to-peer online platform at an agreed interest rate with varying short-term maturity dates.
How does P2P lending work?
· Investors decide how much money they want to invest on a particular online P2P platform. They also choose how their money will be used, whether to fund one loan in particular, or to invest in a portfolio of loans. In some cases, investors may be able to choose the minimum interest rate and select the loan term (short term or long term).
· Borrowers begin an online application on a P2P platform and choose the loan that fits their needs.
How are interest rates set?
· Borrower sets interest rate
Borrower decides the maximum interest rate he is willing to pay.
· Platform sets interest rate
The platforms categorize the borrowers to a risk category that determines the interest rate that he will receive.
· Rates are set matching demand and supply
Interest rates are moving based on the demand and supply activity.
P2P Lending vs Traditional Lending
Cost for a marketplace
P2P lending can run with lower overhead and provide the service more cheaply than traditional lending (banks) since it is generally operate online. Meanwhile the banks manage the task of running credit checks, filing papers, and completing applications that eventually drove up the cost of lending.
Generally, banks have lower interest rates than P2P lending, but they have higher fees. Thus, lending in traditional banks commonly cost more than in P2P.
Traditional banks can provide larger amount of loans than peer lending. Peer loans only depend on the capital of individual investors.
Qualifying for P2P lending usually is easier than traditional banks, especially for those who have higher credit risk, because there are less paperwork and regulation.
What are the benefits of P2P lending?
Lenders can enjoy returns that are several percentage points above those for a bank.
At a P2P lender forums it is tend to be active, and information is eagerly exchanged about lending and borrowing experiences.
P2P lending has lower fee than traditional banks. Traditional banks will charge borrowers an application fee, processing fee, and generally several other fees, while P2P will not charge those fees.
P2P lending process is quicker than the one in bank. Borrowers do not have to wait for weeks to get the money.
Borrowers and lenders get to know each other personally. It gives personal satisfaction for the lenders to know who is the borrower and why he needs the money.