Borrowing With Peer-to-Peer Loans: How it Works

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Peer to peer (P2P) lending is an option for borrowing from individuals without using a traditional bank or credit union. If you need a loan, it’s worth evaluating P2P lenders as you shop around. Especially if you have good credit, P2P loan rates can be surprisingly low. Even with less-than-perfect credit, you may get approved for an affordable loan with these online lenders.

What Is P2P Borrowing?

P2P loans are loans that individuals and investors make—as opposed to loans that come from your bank. People with extra money offer to lend that money to individuals and businesses through online services. A P2P service (typically a website) is a central marketplace matching lenders and borrowers, making the process relatively easy for everybody involved.

Benefits of Borrowing with P2P

P2P loans aren’t always better than loans from traditional banks and credit unions, but they are typically competitive.

Low rates: You can often borrow at relatively low rates using P2P loans. Banks and credit unions have to cover overhead costs for branch networks, other lines of business, and a large workforce. P2P borrowing is usually a better deal than using a credit card, but it’s always worth comparing rates. As you do so, pay attention to promotional rates, and determine whether or not you’ll pay off your debt quickly.

Origination fees: You may need to pay an up-front origination fee of 1 to 5 percent to fund your loan with a P2P lender. That charge depends on the total amount you borrow, so a $1,000 loan might feature a $50 fee. Compared to a personal loan at a bank, those fees can be high. On the other hand, you’d probably pay more for a second mortgage (and the process is easier). Of course, you pay additional fees for things like late payments.

Quick and easy: Shopping for loans is a pain. And after you apply, you might have to wait a while to find out if you’re approved. With P2P loans, some of that pain is eased. The application process is typically straightforward, and you can often find out relatively quickly whether or not your loan is likely to get funded. Actual funding might take a few days or longer (as investors choose whether or not to put money towards your loan). Decisions are increasingly quick, as non-bank lenders online fund loans as large investors.

Credit matters, but blemishes are okay: In a world where lenders are reluctant to lend to those with negative items in their credit history, P2P lenders remain an attractive option. You need decent credit to get approved—a FICO score in the mid 600s or higher is best—but P2P might give you more options than currently with lenders in your area. The worse your credit is, the more these loans will cost (with higher interest rates), but that’s the case with most lenders.

Types of Loans

P2P loans started out as personal unsecured loans—you could borrow for any legal purpose, and you did not have to pledge collateral to get approved for a loan.

Personal loans are still the most common P2P loans, and they are the most flexible: You can put the money toward debt consolidation, a new car, home improvements, or starting a business. If you want to borrow for higher education, verify whether or not that’s allowed with your lender. Student loans might be a better option for education funding anyway.

Specialized P2P lenders now offer loans for specific uses (like business loans or fertility treatment), as well as loans that you can secure with collateral.

Popular P2P Lenders

The list of choices is continually growing. P2P loans became popular with Prosper.com and Lending Club, both of which still offer fixed-rate loan options. If you’re going to get a P2P loan, it’s probably worth getting a quote from one of those two sources (and get additional quotes from others, if you’d like). Be sure to research any lender on your radar and read reviews from reputable sources before you apply for a loan. To borrow, you need to provide sensitive information like your Social Security Number, and you don't want to give that information to an identity thief.

Several other good options are available. Some may not be “pure” P2P lenders: Instead of borrowing from individual lenders, you borrow from other non-bank lenders. A variety of investors fund those online loans, and the money might even come from banks (without the traditional bank borrowing experience).

How it Works

To borrow with a P2P loan, choose a lender and start the application process. You typically need to provide details about yourself, and the lender may ask what your plans are for the money. Most loans are personal loans, but lenders may promote different packages (home improvements or debt consolidation, for example). The lender checks your credit, and if you’re eligible for the service, investors can fund the loan.

With some P2P lenders, funding is fast, but you may need to wait for funding. The process can take several days or a few weeks. If your loan is funded, you receive the money electronically and repay the loan with automatic electronic payments. You typically repay over three to five years, but you can almost always prepay without any penalty—which helps you save money on interest.

Credit reporting: You build credit as you repay your loan. Most lenders report your activity to credit bureaus, which should help you borrow on better terms in the future. But if you pay late or default on the loan, your credit will suffer, so make payments a priority and communicate with your lender if you fall on hard times.

Is it Safe to Borrow With P2P?

It depends on what you mean by safe, but most mainstream lenders are relatively consumer-friendly.

  • Data: Popular P2P lenders keep your information as secure as any other financial institution, and all communication occurs through an encrypted browser session.
  • Privacy: Your identity should be kept secret from individual lenders, but review privacy policies to understand what information investors receive. Institutions might share information.
  • Rates: Interest rates are typically competitive with what you can find elsewhere. You’ll almost certainly pay less than you’d pay for a payday loan. Still, interest rates can rise on variable-rate loans, causing your payment to increase.