Peer to peer loan provides a substitute to conventional banks for individuals trying to pursue a personal loan. Peer to peer lending is a platform that many are still not be familiar with. In this guide, we are going to discuss the benefits and drawbacks of peer to peer lending. This way, you can figure out if peer to peer investing is the right option for you.
Benefits of peer to peer lending
P2P offers several benefits compared to other forms of investments, like competitive interest rates, convenience, flexible terms and fast processing. Let’s discuss these benefits in detail.
The fast and convenient online application process for borrowers
Since P2P lending platforms are online, the application process tends to be a convenient and quick one. P2P loans are a great option if you want a quick cash flow. On these platforms, lenders provide borrowers’ loan. This way, the turnaround time on getting funds can be quick.
Access better interest rates and returns
Interest rate is one of the most noteworthy advantages of peer to peer lending. Platforms like Kuflink offer lenders an interest rate of 7.2% p.a. Since the traditional bank savings accounts offer low interest rates, most people search for other opportunities to invest in to make most of their money. P2P lending gives you access to higher returns.
Peer to peer lending allows you to spread your money across multiples loans. This way you can manage your exposure to risk. For instance, if you invest £5000 over 100 different loans and one of the borrowers default, you would only lose £50. While if you were to spread the same funds over just ten loans and one of the borrowers’ default, then you could lose £500.
Personal Savings Allowance
The returns you make through P2P lending can be included in your personal savings allowance. Currently, this stands at £500 for high-rate taxpayers and £1000 for the basic-rate taxpayers.
P2P platforms give you the option to choose the borrower you wish to lend to.
Access to funds at short notice
Many peers to peer lending platforms allow you to liquidate your funds before the end of the loan term, as long as you can sell the loan to another lender on the secondary market. However, you will have to check with your provider. Sometimes you may sell the loan quickly, while at times, it may take weeks.
Peer to peer lending is user-friendly compared to other investments like stocks & shares. The system is completely online, hence keeping all the jargon to a minimum. The best thing about P2P is that you don’t need to be a financial expert to start investing. Also, you get quite a low minimum investment amount which gives you the chance to try out this new method of investing to see if it’s for you or not.
Innovative Finance ISA (IFISA)
Innovative Finance ISA was first introduced by the UK government back in April of 2016. The majority of P2P lenders now offer IFISA. With an IFISA, you can use your annual allowance to invest in peer to peer lending and earn interest tax-free.
Disadvantages of peer to peer lending
Capital is at risk
The biggest risk of P2P lending is that your funds are at risk. The funds you invest through peer to peer lending are not covered by the Financial Services Compensation Scheme (FSCS), which compensates up to £85,000. So, if you want to invest in P2P, choose the platform very carefully. Ensure that they are upfront and clear about the risks involved and have a backup in place in case something goes wrong.
The interest you earn is not tax-free.
According to the HMRC requirements, you have to pay tax on the interest you earn through P2P lending. However, fortunately, the interest you earn from peer to peer can be put to your annual Personal Savings Allowance, which is £1,000 for basic-rate taxpayers and £500 for high-rate taxpayers. So, you will not have to pay tax on the returns up to these amounts.
Your funds may not be lent quickly
If your cash hasn’t been lent out, then you won’t earn any interest on it. But, don’t worry; most peer to peer lending platforms are very eager to lend out your cash. Even if your funds get lent out slowly, the overall effect on your return is minimal in the long run.
Because of the wide range of loans, managing a diverse investment portfolio can be time-consuming. However, for this, you can invest through the ‘fund and forget’ model, also called Auto-invest. Through Auto-invest, the experienced team selects the loans for you to diversify your investment portfolio.
The advantages of P2P loans are clear; however, that does not mean they are without fault. Just like other investments, there are risks associated. However, it is critical that you not only focus on the high interest rates but understand the risks carefully.
* The information on this page is not advice. Always ask financial experts for advice if you aren’t sure about your investment choices.