The experts have different opinions on peer-to-peer lending and borrowing. Some experts believed that P2P loans will increase after Brexit. However, the trends have revealed that P2P loans continued to grow in the normal trend after Brexit also, which makes this opinion neutral. The second opinion is that P2P demand will fall after 2016. Considering the normal trends in P2P loans, it is safe to believe that P2P loans are here to stay.
However, we still have some risks and drawbacks involved in peer-to-peer borrowing, but first, we will have a look on the unknown benefits of P2P lending.
The Benefit of Redlining
Redlining was an illegal practice decades ago. The lenders used to reject the applications of borrowers from certain ethnicities and cultures. It was not a legal practice all over the UK but in certain regions only. Later on, as redlining was found to be offensive, the authorities redefined the rules and banned it.
However, the concept of redlining can be applied to the current rules of peer-to-peer lending. Previously, lenders used to screen out the borrowers. Currently, the borrowers can screen out the lenders if they fail to repay a loan and become defaulters. The FCA offers free legal advice for managing the finances and getting out of an unpaid debt. The borrowers of P2P loans can avail these free services and filter out the investors.
Capped Interest Rates
Previously, peer-to-peer lenders operated freely as private organizations. Currently, the P2P companies operate as private lenders and crowdfunding firms. The private lenders are the close friends or relatives of the borrowers. The crowdfunding firms operate as middle parties. These firms obtain money from the investors and lend it to the borrowers. The borrower deals with the crowdfunding firm only. When crowdfunding P2P was introduced in the UK, the interest rates increased robustly. As it worked as a commercial/business loan, the interest rates were already high. The crowdfunding companies borrowed money from the investors on low interest and lent it to the borrowers/businessmen on high interest.
The Department of Business re-considered the increasing interest in peer-to-peer lending and introduced new rules, while working alongside the Financial Conduct Authority. The borrowers can file complaints against the lenders and obtain free services from FCA. The Authority has also capped the interest rates for different types of P2P loans.
Three Risks to Consider
Following are the three important risks involved in P2P lending.
Operator Insolvency Risk
The peer-to-peer loans are not automated loans. If the loan is obtained from a close relationship, then the borrower may return money in cash, check, or via online transfer. However, the new rules oblige the lenders and borrowers to sign a contract, which is mostly provided by the lender. Some lenders prefer the involvement of a third party i.e. bank for security. The commercial P2P lenders also use bank services.
The risk occurs when the banks suddenly stop working due to any reason. The risk of identity theft is also there.
The government introduced Financial Services Compensation Scheme for reducing the risk of loss of capital. The endowment funds, investment funds, mortgage, car loans, and many other loans are covered by FSCS. It provides coverage for up to £75,000 to the investors. However, the Authority does not provide coverage to P2P lenders. This means that the lender will not seek an out-of-court settlement if the borrower fails to repay the money. The lender has only one choice for loan recovery and that is taking the borrower to the court.
Loss of a Relationship
P2P loans work as private and commercial loans. In private loans, the borrower gets money from a close relationship. If the borrower does not repay the money, the lender will either file a legal case or leave the relationship, or both.
In commercial P2P lending, the crowdfunding firms provide loan in the favour of equity ownership. If the borrower does not repay the loan, the company may not file a legal case. The company may take over your newly established business. A second risk is that the company will file a legal complaint and try to dissolve your company, which is definitely not favourable for their benefit of equity ownership. Therefore, the chances of former option are higher.
Sometimes, the bankrupted people borrow money from their corporate friends as P2P loan. This is a rare type of P2P loan. If the borrower does not repay the loan, the lender will most probably file a legal complaint. If it is a very close corporate relation, the lender will try to settle the case outside the court by asking for business shares equivalent to the worth of the loan amount.
The Safe Route
The Financial Conduct Authority has offered renovated rules in 2014. These rules provide maximum protection to the consumers. The purpose of these rules is to minimize the chances of inflation and reduce the national debt. The authority provides free advisory services. Ideally, the borrowers should contact the authority to seek advice. Otherwise, the borrowers should self-evaluate their potential of returning the money.
- Borrow only the amount of money that you can return.
- If you are borrowing money for personal reasons then consider the urgency. Do not borrow a P2P loan for entertainment purposes.
- If you are borrowing money for business purposes then make sure to conduct a professional market survey regarding your business niche. It is helpful in reducing the chances of risk.
- Utilize only 70% of the loan and reserve the rest of 30% as savings. Use the savings to return the loan when your business is unable to produce the repayment.
For further information and details regarding P2P loans and alternative options of P2P loans, visit Quiddi Compare website. You will find tips, techniques, ideas, risks, benefits, and lots of other information. The website also provides comparative rates of different lenders in the market to optimize your options.