What is peer-to-peer (P2P) lending?
Key takeaways
- Peer-to-peer lending involves borrowing money from a group of people or a company instead of a traditional lender such as a bank or credit union.
- A peer-to-peer platform connects you with a group of investors who might be willing to fund your loan.
- Peer-to-peer lenders tend to have lower credit requirements — some approve applicants with fair credit scores as low as 600.
Peer-to-peer lending, or P2P lending, matches borrowers with a network of investors. Unlike a traditional lender, the investors you’re connected with — a group of people (peers) or a company — decide whether to fund your loan.
Although the same factors are used to evaluate your loan application as a traditional loan, the eligibility requirements often aren’t as stringent.
What is peer-to-peer lending?
Peer-to-peer lending brings investors — individuals and companies — directly to people who need money. Traditional personal loans come from institutions like banks, credit unions or online lenders. Peer-to-peer lending is when you borrow money from a person or company investing in your loan.
How does peer-to-peer lending work?
Most peer-to-peer loans are arranged through online lending platforms. The whole process takes place online and usually has a short turnaround time. Here’s how it works:
- Prequalification: See if you are eligible for a peer-to-peer loan through the site’s prequalification process, which will give you an estimate of what your potential loan terms and annual percentage rate (APR) — your interest rate, plus any fees — could be if you apply.
- Application: If you qualify and the offered terms are competitive, you can apply on the lender’s website. Remember that the lender will perform a hard credit check, which will temporarily drop your credit score.
- Approval: A lender generally takes 24 hours to approve your application.
- Funding: Once approved, multiple investors will review your loan. Depending on how much you want to borrow, they’ll either pay in a portion — or the entirety — of your requested amount.
- Electronic transfer of funds: Once your loan gets enough investors, you’ll get your money, usually through an electronic transfer. Depending on the lender, your funds may be deposited within one business day.
- Loan payments: Make fixed monthly payments that get disbursed to all the investors on your loan based on your repayment terms.
What fees do peer-to-peer lenders charge?
The most common fee you’ll encounter with peer-to-peer lenders is an origination fee, typically up to eight percent of your loan amount. This fee is either charged upfront or taken from your total loan amount. You may also be charged late fees if you miss a payment.
Before applying, check the lender’s terms and conditions page to see if any other fees — including hidden fees — are charged. These can quickly add up and detract from the value of your loan.
How does it work if I want to lend money?
If you would like to lend money through a peer-to-peer lending provider, you’ll create an online account that you can then use to review various loan options and terms. You’ll also be able to track loan repayment through your account.
Just like every other investment, there are risks associated with P2P lending, and you can have as much or as little control over the process as you wish. Platforms may feature help when you are deciding on individual loans, while others will disperse your money automatically.
What can I use a peer-to-peer loan for?
Most peer-to-peer loans are unsecured personal loans. Like personal loans from financial institutions, you can use them for almost any legal purpose, like:
- Automobile purchase
- Debt consolidation
- Fertility treatment
- Home improvement
- Major expenses like medical bills or a car repair
- Moving expenses
- Small-business loans for starting or growing a business.
Like personal loans, most P2P lenders have restrictions. For example, most won’t let you use your money for gambling and prohibit using the money for investing in stocks, any form of pure financial investing or direct sales. Some lenders also prohibit you from using the funds for post-secondary education expenses like tuition or room and board.
Where can you get a P2P loan?
There are a lot of online marketplaces that offer P2P loans. Here are some popular platforms to help jumpstart your search:
- Funding Circle: Funding Circle connects borrowers seeking small business loans with a network of investors. It offers term loans up to $500,000 and a line of credit up to $250,000 to qualified applicants.
- Kiva: Kiva connects borrowers who need microloans for their small businesses with a network of lenders who aren’t seeking a profit. Instead of using your credit score to underwrite the loan, Kiva requires you to get a certain number of people to send you money through the platform. Once the threshold is met, your loan becomes available for public funding.
- Prosper: Founded in 2005, Prosper was the first peer-to-peer lender in the United States. It offers personal loans of $2,000 to $50,00 to qualified borrowers; origination fees range from 1 percent to 9.99 percent. To qualify, you must have a minimum FICO score of 640.
What are the benefits and drawbacks of peer-to-peer lending?
If you’re considering taking out a personal loan through a peer-to-peer marketplace, know the pros and cons first.
Pros
- Fair credit allowed: Some peer-to-peer marketplaces allow borrowers to have credit scores as low as 600. This is good news if you don’t have great credit — or much credit at all — and can’t find a loan through other means.
- Quick funding process: As with all online lenders, you’ll complete your application within a few minutes, and if you’re approved, you can expect your money within a couple of days. Some banks and credit unions might take much longer to fund your loan or may require in-person applications.
Cons
- You might have more fees: Peer-to-peer lenders tend to charge origination fees, ranging from 1 percent to 8 percent of your loan amount. Not all charge this fee, but you’ll want to review all fees before completing an application.
- You could have a higher interest rate: Depending on the marketplace, you might end up with a higher interest rate than you would with traditional lenders. Your credit score also determines your interest rate: The lower your score, the higher your rate. Shop around for the best peer-to-peer lending rates before completing an application.
What is the difference between peer-to-peer lending vs. bank loans?
The major difference between peer-to-peer loans and bank loans is who funds them. If the money comes from an online lender comprised of an individual or a group of investors, it’s a peer-to-peer loan. If the money comes from an established financial institution, like a credit union or bank, it’s a traditional bank loan.
Many banks offer some of the lowest rates available, which is a perk for borrowers with excellent credit. If you already have an account with a traditional bank, it may offer member perks and benefits — like increased autopay discounts — for those who take out one of its personal loan products.
However, those with a thin or not-so-stellar credit history may want to look elsewhere for a personal loan. Banks tend to have stricter qualification requirements and slower funding timelines, making it difficult to qualify and get funds quickly.
Loan amounts and repayment terms of bank loans and peer-to-peer loans are similar, but if you need to borrow a smaller amount to hold you over, peer-to-peer lenders are more likely to offer loans with lower dollar amounts.
| Peer-to-peer loans | Bank loans |
|---|---|
| Funds from individuals or groups of people | Funds from financial institutions |
| Flexible options for people with less credit history | Stricter qualifications |
| Online application | May require an in-person application |
Frequently asked questions
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As far as security goes, peer-to-peer platforms safeguard your personal and financial information just as a traditional bank or online lender would.However, they aren’t exactly traditional banks or online lenders, which can lead to apprehension about borrowing from them. That being said, investors take on the most risk. If borrowers don’t repay their loans and go into default, it’s likely investors won’t get their money back.
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Before using a peer-to-peer lending platform, research to ensure the lender is legitimate to avoid being scammed. The FTC recommends checking that a lender is registered for business in your state. You can also read reviews from review websites such as Trustpilot.
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Maximum loan amounts vary depending on the peer-to-peer lender you’re applying with. Some P2P lenders, like Prosper, allow qualified applicants to borrow up to $50,000, while others offer loans up to $500,000. That said, the exact amount you can borrow will depend on various factors, like your income, credit score and how much debt you have.
The bottom line
While peer-to-peer lenders offer personal loans like other financial institutions, they aren’t quite the same. This type of lending brings you directly to financial backers. It’s an investor funding your loan, not a bank.
If you’re interested in P2P lending, the first step is to research the lenders you want to work with and prequalify. If you’re offered competitive terms for your financial situation and apply, you can expect the funds within a few business days.
