Is peer-to-peer lending a good investment?
Peer-to-peer (P2P) lending companies have shot up over the last few years.
The big appeal, at least on the surface, is the rates of return offered to investors, which are way above anything you can earn in a normal savings account.
The Peer2Peer Finance Association reveals that in the first three months of 2017, a further £1 billion-plus was lent, taking the cumulative total to almost £8.5 billion, with 180,000 investors taking part along with 420,095 borrowers.
But it is important to understand exactly what you are dealing with before plunging in.
Like any investment (and these are partly investment products, rather than just savings ones) there are risks involved.
What is peer-to-peer lending?
Peer-to-peer lending, which is often also known as crowd lending, sprang up as a way of funnelling loans to those who need them and who also want to avoid the restrictions and costs of banks and other traditional lenders.
At first glance, everyone is a winner: borrowers usually get lower rates, and savers who do the lending get better returns on their cash than they would from savings accounts.
And, of course, the sites that set up these partnerships, the cash cupids, get a commission for their efforts.
It’s important, though, to understand that this isn’t saving in the normal sense – it’s investment and that means it’s less secure than putting savings in a bank or building society.
There is a risk, although you can lessen this, that you won’t get your money back.
You’ll also need to be prepared to tie up your money for longer than normal.
But all this doesn’t mean you are not offered some protection.
Is peer-to-peer lending regulated?
Lending is regulated … BUT, if you use a site to lend money in this way there are rules that the company you use must follow.
They must explain the risks clearly for a start.
Starting from last month (April), all firms must have at least £50,000 of cash in a pot to ensure they can afford to meet unforeseen difficulties.
Bear in mind that any money you invest may not be lent out immediately and until it is, you won’t start earning interest.
Your money is not savings, remember, and it’s not placed with a bank or other institution that’s part of the financial savings scheme.
This protects savings up to £85,000 per person should an institution go bust, but not with peer-to-peer lending.
If the company you lend through goes bust, your loan is still valid and insurance will be in place to see it is still collected, but that is unlikely to be a simple and quick process, like the Financial Compensation Scheme is.
Keep in mind … this is all still quite new and, while peer-to-peer is becoming increasingly mainstream, it’s still relatively untried.
Probably the best advice if you fancy it as an investment, is to start off with a modest amount.
Bigger return, bigger risk
The golden rule, as with all investing, is this: the bigger the returns, the bigger the risk.
In the case of peer-to-peer lending, the risk is that those who have borrowed your money won’t be able to pay it back, or just don’t pay it back.
Borrowers are vetted and checked, of course, but that does not eliminate risk.
Don’t let large percentage returns blind you to this.
Again, don’t be blinded by high potential returns, and work these out net.
That means fully understanding all the fees and charges involved.
These can vary quite widely, but will certainly cut into your returns.
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