The Rise and Workings of Peer to Peer Business Loans
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UPDATED: Sep 13, 2012
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The lending industry has been reeling since the financial crisis of 2007. Subsequently, the global economy is facing the longest and deepest recession since the Great Depression. In times like these, innovation is often the charge needed to restart the engine of prosperity and growth. Within the financial industry, peer-to-peer lending—also known as p2p lending—has revealed itself as a new form of financing that offers everything from personal to business loans. This new form of financing can fund promising businesses which, in turn, may lead to more job creation.
Businesses and entrepreneurs sometimes face several rejections before finding a lender who approves of their commercial loan. Some borrowers may instead opt for peer-to-peer financers who offer business loans.
P2p lending first appeared on the business scene in 2006. Peer-to-peer financing involves a large group of individual lenders that pool their money together in order to offer money to borrowers. Through p2p lending websites, company owners can apply for a business loan and, if qualified, they will be matched with willing lenders.
Typically, borrowers are charged a fee for being connected to a group of financers that each contributes several thousand dollars towards the total of a requested loan. If borrowers are approved for a business loan, they must repay their lenders with interest, just as they would with any other type of loan.
Most peer-to-peer loans are for a few thousand dollars but some can exceed tens of thousands of dollars. P2p loans are often used to pay off credit cards, some of which can have high interest rates. Those that are in excess of $30,000 are typically used by businesses.
While banks usually reject risky applicants, peer-to-peer financers tend to welcome subprime borrowers. Ironically, the riskier a borrower is the better return lenders see on their investment. As a result, peer-to-peer financers may offer loans to businesses and entrepreneurs that traditional lenders, such as banks, would simply reject.
P2p lenders still mitigate their vulnerability to risky investments by having high interest rates on their loans. Comparably speaking, the high interest on business loans that peer-to-peer financers offer to subprime borrowers are still lower than the high interest a conventional lender would offer subprime borrowers since the risk is spread amongst a group of individuals.
P2p lenders operate their own credit screening prior to offering money to an applicant borrower. If an applicant passes the credit screening process then they must pay an origination fee as well as a servicing fee on each monthly payment transaction to their lenders.
In the event of a default, individual investors do not pursue the borrowers, but rather the peer-to-peer financing organization will forward a defaulter’s information to debt collectors.
Peer-to-peer lending is one of the fastest growing financial instruments available to borrowers and for individual financers to turn a profit with. In fact, TechCrunch reported that the niche industry had lent over $1 billion in the last 6 years of its existence.
Wise investors may decide that the unpredictable and shaky stock market is far more risky than the more intimate and personal practice of peer-to-peer lending. As more investors decide to become p2p financers then a day may come when the niche lending industry rivals traditional lending.