Peer-to-peer lending is a type of lending where borrowers can take out a loan with a person or company that’s “investing” in those borrowers. In other words, loan funds are supplied not by the lender itself, but rather by individual investors. If you don’t have great credit or don’t qualify for a traditional personal loan, you can look into peer-to-peer lending marketplaces to get your loan funded.
What is peer-to-peer lending?
Peer-to-peer lending brings investors — both individuals and companies — directly to people who need to borrow money. Traditional personal loans come from institutions, like banks, credit unions or online lenders. Peer-to-peer lending is when you borrow money from a person or company investing in your loan.
How does it work?
Most peer-to-peer loans are arranged through online lending platforms, like Prosper. The whole process takes place online and usually has a short turnaround time. Here’s how it works:
- See if you’re eligible for a peer-to-peer loan through the site’s prequalification process.
- If you qualify, complete an application.
- Your loan will move to the funding stage, where multiple investors will review your loan.
- Investors will either pass or agree to fund all or a portion of your loan, depending on how much you want to borrow.
- Once your loan gets enough investors, you’ll get your money, usually through an electronic transfer.
- When the time comes to repay your loan, you’ll make monthly payments that get disbursed to all the investors on your loan based on your repayment terms.
What fees do peer-to-peer lenders charge?
The most common fee you’ll encounter with peer-to-peer lenders is an origination fee, which is typically up to 8 percent of your loan amount. This fee is either charged upfront or taken out of your total loan amount. You may also be charged late fees if you miss a payment. Other fees will depend on the lender you work with.
Is peer-to-peer lending safe?
Peer-to-peer lending platforms are not traditional banks or online lenders, which might make you nervous about borrowing from them. That said, investors take on the most risk; if borrowers don’t repay their loans and they go into default, investors probably won’t get their money back.
As far as security goes, peer-to-peer platforms safeguard your personal and financial information just as a traditional bank or online lender would.
What can I use a peer-to-peer loan for?
Most peer-to-peer loans are unsecured personal loans. Like personal loans from financial institutions, you can use them for any legal purpose, like:
Some have restrictions. For instance, you might not be able to use your loan to pay for higher education costs. Most won’t let you use your money for gambling.
Benefits and drawbacks of peer-to-peer lending
If you’re thinking about taking out a personal loan through a peer-to-peer marketplace, make sure you know the pros and cons first.
- Fair credit allowed. Some peer-to-peer marketplaces allow borrowers to have credit scores as low as 600. This is good news if you don’t have great credit — or much credit at all — and can’t find a loan through other means.
- Quick funding process. As with all online lenders, you’ll complete your application within a few minutes and, if approved, can expect your money within a couple of days. Some banks and credit unions might take much longer to fund your loan or require in-person applications.
- You might have more fees. Peer-to-peer lenders tend to charge origination fees, ranging from 1 percent to 8 percent of your loan amount. Not all charge this fee, but you’ll want to review all fees before completing an application.
- You could have a higher interest rate. Depending on your peer-to-peer marketplace, you might have a higher interest rate than you would with traditional lenders. Your credit score also determines your interest rate: The lower your score, the higher your rate. Do your best to shop around for the best rate before completing an application.
Peer-to-peer lending vs. bank loans
The major difference between peer-to-peer loans and bank loans is who funds them. If the money comes from a lender who is an individual or a group on a web-based platform, then it’s a peer-to-peer loan. If the money comes from a credit union, bank or another financial institution, then it’s a bank loan.
Many banks offer some of the lowest rates available, which is enticing for borrowers with excellent credit. If you already have an account with a traditional bank, you might want to explore personal loans through it. With that said, banks tend to have stricter qualification requirements and slower funding timelines.
Loan amounts and repayment terms of bank loans and peer-to-peer loans are similar, but if you only need to borrow a little bit of money to hold you over, consider browsing peer-to-peer lenders that offer low dollar amounts.
The bottom line
While peer-to-peer lenders offer personal loans just like other financial institutions, they aren’t quite the same. This type of lending brings you directly to financial backers. It’s an investor funding your loan, not a bank.
If you don’t have great credit or want to cut out the middleman, peer-to-peer lending might be great for you. But before you complete an application, you’ll want to compare:
- Interest rates.
- Repayment terms.
- Loan amounts.
- Time to get funded.
Not all lenders or marketplaces run equally. Make sure you’ve covered all your bases before applying for a personal loan through a peer-to-peer marketplace.