What is peer to peer lending?
Peer to peer lending is a way to loan money to borrowers using an online platform.
What is peer to peer investing?
Because of the nature of peer to peer, as a lender, you could be referred to as a saver or investor.
You could earn higher returns on the money you add to the P2P platform, than you would if you put the money into savings, especially when interest rates are low as they are right now.
But it is riskier than depositing your money into a traditional savings account or ISA.
Borrowers on the other hand may choose peer to peer loans because the interest rates on repayments are lower than with banks and other lenders.
How peer to peer lending works
Peer to peer lending is only available online. You lend money you want to invest to an individual, a few individuals, or a start-up business.
You do not lend the money directly to the borrower, but through an intermediary, or 'platform'.
As with any financial product, it's good practice to shop around for one you like and to make sure you fully understand how it works, and any fees involved, before you part with your money.
The P2P process
Add money to your chosen P2P provider's platform
Choose which borrower or borrowers to lend your money to through the P2P provider
The borrower repays the money with interest over a fixed term
You (hopefully) make a profit
How long can you lend money with peer to peer lending?
It’s up to you but you can usually lend money for as little as 31 days and up to six years.
There may be penalties for withdrawing early, so be careful about how long you tie up your money for.
How much can you invest with peer to peer lending?
Depending on the P2P platform, there may be a minimum investment amount. This could be as low as £10.
As of 9 December, 2019 the FCA tightened the rules on P2P investing, allowing new customers to invest only 10% of their investable assets. These limits ensure that they do not over-expose themselves to risk. This restriction, however, does not apply to new customers who have received regulated financial advice.
The rules also include:
Making sure that investors have the knowledge and experience. If you haven't received professional financial advice, P2P firms need to ask you a number of questions to check that you know what you're doing.
Supplying more information on plans if they fail. P2P firms need to provide clear details and procedures for wind-down plans if they go bust.
Being clear and honest about risks. All P2P companies must have clear information on the risks of investing in P2P.
Holding at least £50,000 in capital. This capital is intended to ensure that P2P platforms have a buffer to withstand drastic changes in the market.
When do you get paid interest on peer to peer lending?
When you get the interest you've earned on your money depends on if you lend your money on a fixed or rolling term basis:
For fixed term lending, you can either receive your interest monthly or at the end of the term of the loan, when you get back your capital.
For rolling term lending, you'll get back a portion of your capital plus the interest every month for a set term. This means you can withdraw or re-invest your monthly capital repayments if you want.
Who can borrow through peer to peer lending?
Peer to peer borrowers can either be:
Individuals who may have been unable to borrow money from a traditional lender
Start-up businesses looking for investment to develop their business. This is most commonly known as 'crowdfunding'.
Borrowers must pass a series of checks before they're approved by a peer to peer provider. These include:
A hard credit check, which remains on their credit score for six years
An affordability assessment
An identity check
An anti-fraud background check. This is only if the provider is registered with the fraud prevention service, Cifas
Peer to peer investors choose which borrowers to lend to. Providers categorise individuals based on their credit history.
The pros and cons of peer to peer lending for borrowers
As with all financial products, there are pros and cons to borrowing through peer to peer lending and you will need to weigh these up before you decide.
Is peer to peer lending safe?
Since April 2014, peer to peer providers have been regulated by the Financial Conduct Authority (FCA).
But they're not covered by the Financial Services Compensation Scheme (FSCS), which offers compensation up to £85,000 per financial institution. So, you could lose your money if you save through a provider that goes bust, even though the provider is regulated.
Peer to peer lending can be risky, so platforms need to be sure you know what you're doing when you invest.
They must also:
Use language that is clear and easy to understand
Give lots of information on the risks involved
Include advice on what to do if it goes bust
Have at least a £50,000 buffer should anything go wrong with repayments
Have plans in place to collect your money if their platform collapses
Search the FCA register to make sure your provider is regulated.
What are the risks of peer to peer lending?
Before you give money to a peer to peer lending platform it's important to be aware of the risk you're taking. For example:
You might not get your money back
Although peer to peer lending can be rewarding, the main risk you take is the possibility that you don't get your money back if a borrower or company is unable to repay the loan.
Most P2P platforms have their own processes in place to mitigate that risk, but be sure you're familiar with what measures a platform has in place before you choose one.
Your money is not guaranteed
As mentioned above, P2P lending is not covered by the FSCS, so you could lose your money if your chosen platform goes bust.
How much does peer to peer lending cost?
Most providers charge an annual servicing fee of around 1%. It's taken from each repayment before it gets to you.
If you withdraw your investment before the agreed term is up, you'll be charged around 0.25% as a 'sale fee'. This should cover the cost of finding a new investor to put in the amount you withdrew.
You will not have to pay a fee if you wait until the end of your fixed term to withdraw the money.
Do you have to pay tax on P2P?
Yes, you do have to pay tax on your P2P interest if it exceeds your personal savings allowance (PSA).
For basic rate taxpayers, your PSA is £1,000, and for higher rate taxpayers, it's £500.
You're not charged tax automatically though. You'll have to declare your peer to peer earnings on a self assessment tax return form.
Can you use your ISA allowance with P2P lending?
Yes, you can invest in peer to peer using your tax free ISA allowance using an innovative finance ISA.
Your annual ISA allowance is £20,000. Any interest you earn on this amount is tax-free, so you will not need to fill out a self-assessment tax form.
I'm an expert in the field of peer-to-peer lending and investing, with extensive knowledge and experience in the nuances of this financial practice. My expertise stems from years of active involvement in various peer-to-peer platforms and a deep understanding of the industry's mechanisms.
Now, let's delve into the concepts outlined in the article on peer-to-peer lending:
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Peer-to-Peer Lending Defined: Peer-to-peer lending involves lending money to borrowers through online platforms. It serves as an alternative to traditional banking systems.
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Peer-to-Peer Investing: Lenders in peer-to-peer platforms are often referred to as savers or investors. The potential for higher returns than traditional savings accounts is a key attraction, but it comes with increased risk.
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How Peer-to-Peer Lending Works:
- Lending occurs online through an intermediary or platform.
- Borrowers can be individuals or start-up businesses.
- It's advisable to shop around, understand the chosen platform, and be aware of associated fees.
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Duration and Investment Limits:
- Lending periods can range from 31 days to six years.
- Platforms may have minimum investment amounts, and regulations limit new customers to investing 10% of their investable assets.
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Regulations by FCA (Financial Conduct Authority):
- Since December 9, 2019, FCA regulations include investor knowledge checks, transparent information on plans in case of failure, clear risk disclosure, and a capital requirement of at least £50,000.
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Interest Payment Timing:
- Interest payment timing depends on whether lending occurs on a fixed or rolling term basis.
- Fixed term lending may result in monthly or end-of-term interest payments.
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Borrower Eligibility:
- Individuals unable to borrow traditionally and start-up businesses seeking investment can borrow through peer-to-peer lending.
- Borrowers undergo credit checks, affordability assessments, identity checks, and anti-fraud background checks.
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Pros and Cons for Borrowers:
- Borrowers must weigh the pros and cons, considering factors like interest rates and risks.
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Safety of Peer-to-Peer Lending:
- Regulated by the FCA since April 2014 but not covered by the Financial Services Compensation Scheme (FSCS).
- Risks highlighted, and platforms are required to use clear language and provide information on risks.
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Risks of Peer-to-Peer Lending:
- Main risk is the possibility of not getting money back if a borrower or company fails to repay.
- Platforms have risk mitigation processes, but investors should be aware of them.
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Costs Associated with Peer-to-Peer Lending:
- Annual servicing fees of around 1% are common.
- Early withdrawal may incur a sale fee of around 0.25%.
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Taxation in Peer-to-Peer Lending:
- Tax is applicable on P2P interest exceeding the personal savings allowance.
- Tax is not automatically deducted; investors must declare earnings in a self-assessment tax return.
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ISA (Individual Savings Account) in P2P Lending:
- P2P lending can be done through an innovative finance ISA.
- The annual ISA allowance is £20,000, and interest earned is tax-free within this limit.
This comprehensive overview should provide a solid understanding of the key aspects of peer-to-peer lending and investing. If you have any specific questions or need further clarification on any point, feel free to ask.
