When it comes to describing the impact that peer-to-peer (P2P) lending is having on the financial landscape, just listen to Guru Baligia, a business mentor with SCORE NYC: “P2P lending is a disruptive force in finance just as Amazon has been in retail.” Indeed, P2P lending, or marketplace lending as it’s also known, is a way for borrowers and lenders to come together without the need for a bank. There are a number of online sites that offer this type of lending, including Lending Club, Funding Circle and Prosper. Many different types of loans are available on a P2P basis, including personal loans, business loans, debt consolidation and student loan repayment loans. Borrowers need to have good personal credit to qualify, with 640 often cited as the minimum acceptable score for a business loan.
The appeal to small business owners
The interest rates on P2P loans can be quite competitive, especially for borrowers with exceptional credit, but that’s not its main appeal. “Peer to peer lending is best suited for small companies that do not necessarily fit into the mold expected by traditional bank lenders,” says Steve Botwinick, CPA, CFP of Botwinick & Co., a New York City-based CPA firm. “Most banks require a definitive period of operations, financial reporting, restrictions on other borrowings, and extensive paperwork prior to lending to a business. P2P is a less expensive and less cumbersome route, and often is less rigid on the borrowing criteria.”
A strong personal credit rating is essential, but not sufficient to secure a P2P business loan. Each platform has its own set of qualifying criteria for borrowers. Lending Club, for example, requires borrowers to be in business for two or more years, have at least $75,000 in revenue and a 20% ownership stake, and be bankruptcy- and tax lien-free. These terms are fairly representative although some sites require less, notably Lendio, which requires only that the borrower be at least 18 and legally able to operate a business in the United States or Canada.
Faster than working with a bank
One of the biggest draws of P2P lending is the speed at which loans are approved and processed. “The process of procuring a loan from traditional outlets is time consuming and expensive and in the end, there is a chance the business does not qualify,” says Botwinick. “Clearly, this new type of borrowing streamlines the process of borrowing and procuring capital for small businesses. It allows for quicker turn-around and flexibility compared to traditional channels.” P2P sites typically promise decisions within 24 hours, with the cash following within days. While some commercial banks offer the same, the process with many loans, especially SBA loans, can take much longer.
Most P2P loans require a monthly payment, generally automatically deducted from the borrower’s bank account. If a payment bounces or is late, penalties can accrue quickly. Yahoo Finance reports these penalties at $15 for the first occurrence, with an additional $15 or 5% penalty imposed if the situation is not remedied within 15 days. P2P lenders report late payments to credit bureaus, which can make it more difficult and expensive to borrow money in the future. Most P2P loans are 36 or 60 months in duration.
When P2P lending began in the early 2000s, it centered on individuals funding individuals; by the mid-2010s, Forbes was reporting that as much as 85% of some P2P lending sites’ business loans were being provided by institutional lenders. If borrowing directly from other entrepreneurs and investors is important to you, make sure to check your loan offers carefully—they disclose who is making the offer. Delve into the details to select the loan that meets the terms that are most important to you.
P2P lending can also be an attractive investment opportunity
If you’re in a position to use your money to make money, P2P lending may make sense in another way, Botwinick says. “P2P lending offers an opportunity for those that have extra capital to invest in certain loans that they feel meet their financial needs, such as length of terms and rates and at a risk level in line with their tolerance,” he says. “This new type of lending is just getting started and it is anticipated that it will grow as start-ups grow.”
Even so, he advises potential lenders to move forward cautiously and ask certain questions. “Is the rate you will receive sufficient to justify tying up capital for a period of time?” he says. It’s important also to consider the fact that P2P lending pays a return beyond the financial one. “There could be other benefits,” Botwinick points out, “such as the public relations of helping small businesses grow and the potential of meeting future joint venture or acquisition partners.”