How Safe is Peer to Peer Lending? A Risk Analysis

Jun 28, 2020

P2P or Peer-to-Peer lending is the current buzz term of the global financial industry. In simple terms, peer to peer lending means a type of lending which involves individuals funding loans directly to other individuals who need funds, thus effectively cutting out the middleman like banks and other financial organizations. 

The peer to peer industry has benefited the general population and provided benefits to both the lenders and the borrowers. However, it comes with its share of challenges that have raised a few questions among both the industry insiders as well as the users. This article tries to answer the following question: How safe is P2P lending?

Key Risks Associated With P2P Lending Platforms 

There are issues abound with the peer to peer lending industry which raises lots of questions about the rating and credit quality of the unsecured lending industry. The main risk factor associated with peer to peer lending platforms is that they are not obliged to pay the lender if the borrower defaults on the loan payments. 

Lack of transparency on the part of P2P lending platforms adds to more worries as there is no clarity on how they categorize their loans. The categorization usually ranges from low risk & low reward to high risk and high reward. On top of that, there are many doubts over how these peer to peer lending platforms verify the creditworthiness of the borrowers. 

Let's also explore the pros & cons of the P2P lending industry for further analysis. It will add to the insights which will help you understand just how safe is peer to peer lending. 

Pros of Peer to Peer Lending Industry 

  • Fast & Easy Approval 

The P2P lending platforms have one major advantage which helps them make a market of its own in the overtly competitive global financial industry. A borrower faces a lot less number of bottlenecks while securing a loan from the peer to peer lending platforms. This benefits the borrowers as they can access funds comparatively faster. 

  • Multiple Options for Investing

The account-based loans don't offer an option to investors for choosing where to invest. On the other hand, P2P lending platforms allow you to choose the loans that you want to fund.

You can analyze the funding opportunities on the peer to peer lending platforms in terms of its scope of profitability and then decide which of the loan requests you want to fund. 

  • Higher Rate of Returns on Investments

As a lender, you will greatly benefit from the peer to peer lending platforms as they offer pretty high returns on investments. It has been found that these platforms offer yearly interest earnings to their lenders in the range of 9% to as high as 20%. Whereas, the bank savings accounts offer interest earnings at a rate of 6%. Financially speaking, investing through the P2P lending route is far more beneficial to the lenders. 

Cons of the Peer to Peer Lending Industry 

  • Penalty Fee on Early Exit

Some P2P lending platforms don't allow you to exit early from your investment and those that do, charge an additional fee from you. In a few cases, the lending platform doesn't allow you to exit from a loan until another investor is found to take over the amount funded by you. 

  • High Risks

If you want to lend through the P2P lending route then you must factor in the high risks involved.

Imagine, you are funding a small company or a new startup that has just begun its operations or did not have any proven success so far. There is a chance that a venture like this may go bust at any time and if something like this happens, you may not be able to recoup your investments. 

You must keep in mind that the P2P lending platforms don't provide any cover for losses arising out of loan defaults. This is the reason for which the peer to peer lending platforms offer higher rates of return to its lenders as the degree of risks is higher when funding loans through them. 

Peer to peer lending has both bright and dark sides to it. Now, it depends on you what side you look at. As the saying goes "pick your poison."

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